State Street Corp. - Shareholder/Analyst Call

Feb. 9.12 | About: State Street (STT)

State Street Corporation (NYSE:STT)

February 09, 2012 12:30 pm ET

Executives

Joseph L. Hooley - Chairman, Chief Executive Officer, President, Chairman of Executive Committee and Member of Risk & Capital Committee

Scott Francis Powers - Executive Vice President, Chief Executive Officer of State Street Global Advisors and President of State Street Global Advisors

Joseph C. Antonellis - Vice Chairman and Head of All Europe And Asia/pacific Global Services & Global Markets Businesses

Peter O'Neill - Executive Vice President and Head of Investment Servicing, Investment Research & Trading Businesses -United Kingdom, South Africa & Middle East

James S. Phalen - Executive Vice President and Head of Global Operations Technology & Product Development

Christopher Perretta - Chief Information Officer and Executive Vice President

Edward J. Resch - Chief Financial Officer and Executive Vice President

Analysts

Unknown Analyst

Alexander Blostein - Goldman Sachs Group Inc., Research Division

Glenn Schorr - Nomura Securities Co. Ltd., Research Division

Kenneth M. Usdin - Jefferies & Company, Inc., Research Division

Vivek Juneja - JP Morgan Chase & Co, Research Division

J. Jeffrey Hopson - Stifel, Nicolaus & Co., Inc., Research Division

Gerard S. Cassidy - RBC Capital Markets, LLC, Research Division

Andrew Marquardt - Evercore Partners Inc., Research Division

Jason M. Goldberg - Barclays Capital, Research Division

Brian Bedell - ISI Group Inc., Research Division

Brad Hintz - Sanford C. Bernstein & Co., LLC., Research Division

Joseph L. Hooley

I think we're all settled here. So why don't we get started. I'd like to begin by just welcoming you to our new venue, and thank you for spending time with us this afternoon. We've -- in addition to the venue, we've tried to mix this up in a couple of different ways. This afternoon, we're going to take you through what's a pretty full agenda, and let me just take you through what we're going to cover. What's different about it is that we've used this venue as a means to go deep on a few subjects, expose some of our senior management team and make it very interactive. I know having known you over the years that you like to ask a lot of questions, and so we've set this program up to, I think, facilitate that not just at the end but throughout.

So what we're going to do is we're going to -- I'm going to begin with a little bit of a look back on '11 just to refresh you on our performance in 2011 and then quickly transition into just reaffirmation of our strategy, our long-term strategy, which I think underpinning that are some great secular trends that are still intact, perhaps even accelerated through the course of the financial crisis. And then we're going to go deep on 2 different subjects. The first subject is non-U.S. growth or globalization as we call it. And the way we're going to do that is I've asked 3 of our executives to join me on stage and they're going to give a brief presentation, and then we're going to have an interactive conversation so you can hear from them directly. They're in the markets in Europe and Asia, what's going on, what the opportunity set looks like there. And then we're going to transition to the IT and ops transformation, which we first exposed you to last year. We're going to go a little deeper this year, and I've got 2 executives to do the same thing. And then following that, Ed is going to come up and give you a little bit of insight to how we're seeing 2012 unfold, and then Ed and I will take questions at the end. So there's plenty of time during the course of the presentation for Q&A.

So let me get right into it while you're eating. Let me begin by just first reminding you that I may make forward-looking statements today and the actual results may differ. I urge you to read State Street's 2010 annual report and Form 10-K and in particular, risk factors and consider that in the context of my comments.

This is the lineup for today. And let may just get right into 2011 performance. And I don't want to dwell on it, but I want to highlight a few points just to remind you of how we performed in 2011 as a setup for how we're positioned for 2012. So first off, this is a snapshot of our major accomplishments in '11 and a snapshot of our financial results. We strengthened our capital position, reinitiating our common stock purchase program and increased our quarterly common dividend. We deepened client relationships and continued our market leadership in key global markets. We executed the first year of a multi-year IT and ops transformation plan. And financially, you can see that our operating basis revenue grew 9%, and operating basis earnings per share increased almost 10%. Given the excess capital that we're carrying, operating basis return on equity declined to 9.9%. So those are the numbers. From a capital standpoint, we further strengthened our capital position, which is among the highest in the banking industry in the U.S., and you could probably extend that comment to the globe. Of particular note in this slide is on the Basel III, our Tier 1 common ratio is, again, among the highest at 12.1%. We believe that this picture, combined with our business model, positions us very well for the ongoing stress test or CCAR process that's underway.

Comparing 2011 to 2010, we grew both asset servicing and asset management by 11%. We think that's pretty good performance. In asset servicing, we deepened client relationships. 80% of the new revenue came from existing customers, which is a little bit on the high end of what we've experienced over decades. We continue to offer differentiated solutions, and many of our clients, and this is evidenced by what you saw in the balance sheet for the course of the year, sought us out in their flight to safety, flight to quality strategy. In asset management, we improved our performance as 68% of our funds beat their 1-year benchmarks. We introduced 32 new ETFs in 2011 and not only enhanced our product set, but we spent more money on distribution, which I'm sure we'll come onto over the course of this afternoon.

We continue to deepen client relationships. You can see on the bottom end of this slide the cross-sell success, the right side would speak to the persistency of these relationships, where the top 100 customers have been with us over 20 years, the top 1,000 over 11.4 years. It's rare that we lose a customer. We continue to build and grow that customer wallet share through cross-sell.

If I look to -- again, on a deepening client relationship, this chart shows 2011 wins split between U.S. and non-U.S. Given this afternoon, we're going to talk a little bit about the non-U.S. growth prospects. I want to keep the U.S., non-U.S. in front of you. You can see in 2011, we ran roughly at a 60/40 split. I've also -- I think you like to see what has been installed and is to be installed. As you can see on the asset servicing side, there's about $270 billion in assets from the $1.4 trillion that we committed in '11, which will be installed largely in the first and second quarter of 2012, less so in the asset management side given the shorter implementation cycle.

Let me also remind you that in 2011, we continued, and in some cases, extended our market leadership across certain subsegments of the asset servicing industry. We continue to invest both organically and through acquisitions to build these market shares. I call your attention to the chart on the upper right, which is the middle office outsourcing market share. You can see our position vis-à-vis, the rest of the market, I would say we can get into this earliest. We absorbed the deepest market share. It's all been done organically. If I ask you to move to the middle slide, you'd see a different picture, which is we -- in this quarter, actually, is the first time we topped the chart as far as assets under administration and the alternative asset segment. We think that's an attractive long-term segment. We built a good part of this position based on acquisitions. So we've demonstrated through acquisitions, we smartly built up a position in what we think is one of the more attractive subsegments of the asset servicing marketplace. And then if I were to go forward to a few other examples of leadership, securities, finance, institutional asset management and ETF, you can see that we're in a #1 and #2 position not only in these segments, all other things like alternatives and in this slide, the ETFs, as a great spot in a fast-growing market.

In 2011, we faced a challenging environment as you know in the financial services industry, especially in the second half of the year given lower interest rates, volatile equity markets and weak capital markets. We think we responded well by balancing our need to invest with tight expense control. As a result, for example, our comp to revenue ratio for '11 was 40.2%, we implemented a targeted staff reduction program aimed at those parts of the organization that was slower growing, and finally, we accelerated the implementation of our business ops and IT transformation program. You may remember that at the beginning of the year, we thought we would achieve a slight annual pretax run rate savings in '11. By the third quarter, we indicated that these savings would approach $80 million. And in the -- by the end of the year, we reported $86 million in savings from this program on a run rate basis.

I believe that our focused business model, leadership position in the industry and our innovation and high levels of customer service have allowed us to outperform our key competitors. And as you know, we have a broad range of competitors, but for the purposes of this analysis, I just picked on probably the closest peer group. And I looked -- and I -- on this chart, we show revenue growth, EPS growth, pretax margins, return on equity, net interest margin. And in every case, we outperformed that near-end peer group, but I think it's because of the leadership position, the innovation and customer service.

If you were to ask how that translates to stock price, I'd showed you this slide, which would again show that we've outperformed the near-end competitors. Now I'm not particularly proud that we're on the low side of that horizontal line, that's hopefully a temporary thing, but given the market environment, I think our performance has demonstrated that we have outperformed the peer group. If I look at that same peer group and just to be fair, look at a 3-year total return, this is the 12/31/08 to 12/31/11. I think this demonstrates some resilience not only against difficult markets but again if you look at the comparison versus the nearing competitors, our performance has outperformed to the upside.

So that's all I'm going to cover for 2011. I wanted to be brief, but I just wanted to remind as a backdrop, the environment still isn't great. But I think against that not so great environment, we continue to drive growth in the core. We continue to manage the ancillary revenues as best we can, and I think we've done a pretty good job in balancing -- bending down the cost line while not sacrificing investment in the core.

Let me now shift and talk a little bit about strategic direction. There are 5 key elements of our strategy, which I would say strategy, but I would say this is probably more short-term near-term that we're focused on in '12 and beyond. We intend to drive profitable growth by increasing our market share and also the share of customers' wallets. We intend to aggressively pursue improving our individual client profitability with our clients that don't meet corporate margin goals. And as you recall, in May of 2010, we set a goal to double our non-U.S. revenue over 5 years, which would be 2014. We're on track year-to-date and continue to focus on this target through organic growth and targeted acquisitions.

We've always been a product leader, and tend to continue to invest in client-driven products and services. We'll pick up some of that in the subsequent discussions. We've already spoken about our business ops and IT transformation program, which you'll hear about shortly. And I would remind you that even though the short-term direct effect of this is bending down the cost line, it's intended to improve client service and make us a more nimble competitor with regard to introducing new products into the marketplace, which is the long-term value of this.

No company can grow and continue to lead without developing or attracting key talent. I think we have great talent. We're continuing to upgrade talent given the marketplace today. I think there's a great opportunity for us to do that to make sure that we're continuing to attract the best talent. And since our capital ratios were among the highest in the financial services industry, we expect to be able to increase our common stock dividend again this year and also increase our common stock purchase program. These 2 objectives are not in opposition to but rather complemented by our acquisition strategy should an attractively priced acquisition become available and one that's in our strategic sweet spot.

I have a high degree of confidence in our strategic direction given the long-term trends that support our growth, opportunities, and I would say they roughly fall under these 4 categories. Globalization, the evolution of global markets, investors continuing to seek out global investment, asset managers continuing to look to distribute their product across the globe, retirement savings, the aging of the world's population, more pronounced outside the U.S. than inside the U.S., the challenge for countries, companies and individuals planning for retirement, this is the element of what I would call secular trend that I think accelerates to this financial services crisis, countries no longer being able to afford social systems, social plans. Complexity is another long-term trend of the financial markets, increasing the demand for wider range of outsourcing services, and then consolidation, which continues to be a factor, I would say, both in the asset servicing and asset management marketplace, more pronounced in asset servicing where scale and size of organization and global reach really do make a difference.

Here's a snapshot of -- I'm going to go into each of these 4 long-term trends and just push them out a little bit with some numbers. Here's a snapshot of our global growth over 10-year period from '01 to '11. Over this period, our operating basis non-U.S. revenue grew 290%, while total revenue grew 150%. I think notably, our growth in Europe was more than 1,000%, which translates into a 27% CAGR in the decade. And our growth in Asia was more than 400% or 70% CAGR. As you know, we've done more acquisitions to position ourselves in Europe, and that's probably the principal reason for the difference in growth rates. In both cases though, pretty heavy growth rates.

One of the most important trends supporting our growth strategy is to continue growth in retirement savings. You can see from these slides, there's a lot of information on the slides, but after the dip in '08 caused by the financial crisis, growth in U.S. and non-U.S. markets is really back on track from a retirement standpoint, fueling the U.S. growth of 401(k) and IRA plans, which are continuing to grow. In that same trend of retirement, moving towards individual and company-sponsored plans is now very evident in Europe and parts of Asia. And this trend will spur higher growth rates because of the later start outside of the U.S., again, a topic that we'll go a little deeper on when we have our panel discussion. And overall, if you look at the banner at the bottom, global retirement assets are expected to grow at a 7.4% growth rate through 2015. So we think we're well-positioned in this space, it will continue to grow. I would argue it's likely to accelerate given the financial crisis, and you've see that in some markets where savings rates have increased.

Let me go to complexity. I don't think anybody will have to be convinced around this trend, a clear trend in the markets based upon increased regulation, need for transparency, increased reporting requirements. And I think -- when I think of complexity from our business standpoint, it really creates opportunities. And I've given you at the bottom just 3 examples of businesses that have been substantial businesses for us, the hedge fund servicing business, the first one, where without the complexity, transparency and other forces in the industry, this wouldn't be an outsourced model. 10 years ago, hedge fund private equity was an in-sourced activity. It's the complexity, transparency that have forced this to an outsourced model, and for us, it's become a very big business, doing the servicing for hedge funds. As I mentioned before, we're -- well, I didn't mention before, you can see there's $486 million -- $486 billion assets that we service in a market sized at $2 trillion.

Next, investment manager operations outsourcing, I'd say the same thing. Had we not had complexity of regulation, reporting, transparency, this wouldn't be a market place for us today. 12 years ago, we began it, now it's one of the more important differentiators in our product set. It's the ability to outsource not only back office and middle office, it's become a big business for us. Complexity has been our friend.

And then this final point is around asset management. Investment management solutions or the notion of combining asset classes to create solutions is a key growth area for SSgA. We find that plan sponsors, as well as pension funds are looking to consolidate providers and find those that can provide a complete solution for them, one that meets their liability requirements while meeting their plan's asset allocation targets. So complexity is our friend.

The last point I'll make on the trend side is that consolidation over the last decade has left the industry with 4 very large custodians. You've seen me put this slide in front of you before. I believe it's inevitable that consolidation will continue. If you look to the right of those 4 large custodians, I color coded it just to highlight the fact that the majority of the rest are in Europe. If you put that against the backdrop of European financial stress, European bank stress, the need to raise more capital, I think that opportunity is still in front of us. I think consolidation will continue. And I think I'd also say that if you look at the profile of the top 4, they have different levels of appetite to grow through consolidation and roll-ups, which I'm sure we'll come on to in the course of the Q&A.

So I'm going to pause there and just a little bit of '11. The setup is that we continue to test the theory of, is our strategy intact against the long-term goals of 10% to 15% EPS growth, 8% to 12% topline growth? And based on what I just showed you, the underlying trends, globalization, retirement, complexity and consolidation, we believe that the strategy is intact to achieve those long-term goals.

What I'd like to do now is to transition and go a little deeper on the globalization topic. And in doing that, I'd like to invite my colleagues up to the stage. Come on up, guys, I'll let you -- and I'll introduce them, and then we have a short video to transition the program. Scott Powers, on my right, is the CEO of State Street Global Advisors, our Global Asset Manager. To Scott's right is Joe Antonellis, and we originally had Wai Kwong Seck. You might have seen that when we first put out. He had a family emergency just in the last couple of days, so Joe has agreed to pinch hit. Joe is the Vice Chairman, and Joe runs our non-U.S. business, operating out of London. And then to Joe's right is Peter O'Neill, who runs our Asian-based businesses. Peter is located in Hong Kong.

[Presentation]

Scott Francis Powers

I thought I'd just take a few moments as I set up. Peter, Joe and I are going to spend the next few minutes talking about what we see as the great opportunities for our growth around the world. And Jay truly did set up the dialogue with the trends that we think are significant. They are long, new trends, and we think we're very well-positioned against those trends to grow our business globally, off the strong basis we have in North America but to truly grow at a better rate globally than we have here in the more developed markets in North America.

So I thought it was worth noting that outside the U.S, when clients look at State Street, they really look at State Street as 1 company. And internally, we do a lot of kind of branding work, and State Street Global Advisors, as you know, is known as one of the largest data providers in the world. State Street Corp. has a broad range of capabilities. Those capabilities are laid out on this slide in front office, middle office and back office as kind of the silos.

Increasingly, what we see from clients is a desire for us to present ourselves as 1 company, providing a range of solutions across the scope of those functions that are laid out in that cylinder. And all the trends Jay just described, whether it's the increasing complexity, the retirement, the growth in retirement liabilities around the world, all those things, depending on whether you're an asset owner or an asset manager, present different opportunities for us because we're very well-positioned against those core competencies to be able to help our clients with solutions that allow them to focus on the things that are value drivers for them and rely on us to help them with the things that are not going to be core to their offering. So these trends that Jay described are also illuminated in the key opportunities that we see in this slide.

Let me just reflect for a second because this is a strength of ours that isn't built from the last year or 2 years or 3 years. And we spent the better part of the last 2 decades building our global footprint around the world. We obviously have a dominant market share position here in North America, and we expect to continue to grow that business. But it will grow at a slower pace given the size of the market and the market share we already own. The opportunities in Europe, Middle East and Africa and Asia Pac are very, very strong ones for us. And we leverage off of a platform that we spent a significant period of time investing in, both in terms of people and infrastructure.

So Joe will talk about this a little bit more, particularly when we talk about how we differentiate ourselves against some of the competitors in those local markets. But I think it's worth noting when you look at our trend lines that we're not new to this game. If you look at over the last decade, the growth rates that we've been able to deliver both in our core business here in North America but also importantly across our businesses outside of North America, as you can see on the tagline on the bottom, we've grown our non-U.S. businesses at almost twice the rate that we've grown our U.S. business. And I think we are well-positioned to continue with that kind of momentum. And Joe and Peter are going to talk specifically about the opportunities we have in the region.

Joseph C. Antonellis

Great. Thanks. I appreciate that. And good to see you all this afternoon. Peter and I actually have very similar slides just each by regions. So you'll see the same 3 slides that we set up. As you look at the slide I have here, this really talks about our footprint in Europe. And this is, in our opinion, a main differentiator with our clients. This breadth of the footprint, the depth that we have, the color coding here I'll take you through in a second, we have the blue codes, which were our original existing offices, so -- and had built the foundation for our international business. So if you think of the U.K., our London office this year, we'll experience its fourth year anniversary of opening. We've been at -- in our Munich office for over 30 years. Luxembourg had the bulk of our offshore business equities' usage and has been in operation for quite a long time. But we talk a lot about acquisitions, and you followed us through our acquisitions. And the length that we put our acquisitions are to grow first by geography and look at leverages to expand that geography or to add product or to add clients and revenue. And the green boxes here demonstrate the growth in locations that either are de novo through acquisitions or were substantially increased on once we do our acquisitions. So if you look at the Deutsche Bank 2003 acquisition, that really put us on the map. In my opinion, in Europe, it doubled -- almost doubled our market share in our key markets as we did that. And Intesa Sanpaolo in 2010 took us from a very nascent almost negligible market share to the dominant player in Italy where we have the largest asset managers, these clients of ours, who not only provide funds in Italy but also use the Luxembourg usage market to passport their funds back in -- across this footprint quite frankly.

And then on the product side, we've added Mourant. Jay talked about the growth in our alternatives business by adding Mourant into international financial services. We took a predominantly U.S.-based private equity administration business and immediately made a global footprint and became the #1 asset servicer, as the chart shows, in the world based on assets. An additional recent acquisition we made in Switzerland you may have read about is a company called Complementa, they are the #1 analytics provider in Switzerland. And we want to use that capability: a, to drive more business in Switzerland; cross-sell to our client base. But more importantly, we think in our platform, our distribution, we can sell that product through the Germanic countries, Austria, Germany, even the Netherlands, which has a big -- pretty big pension base that I'll show you in a second.

And then finally, we have new offices that we've opened up. One of the highlight was Poland. 3 years ago, a little over 3 years ago, we opened an office in Poland to create a low cost, nearshore activity for very high-level jobs. We do power fund accounting there, and it adds to our European footprint. It gives us a local capability that gives us plenty of flexibility for our clients, benefits our clients in terms of the ability to handle complex fund accounting and provide that low cost solution. And then sovereign wealth funds, MENA has been a big market for us. And recently, a couple of years ago, we opened up a Qatar office to add to our UAE office that we have in that location.

The next slide, we'll talk about the total market, $22.4 trillion in assets, and how it's broken up by those -- quite frankly, those markets that we service, France, Germany, offshore, Italy, Netherlands, Spain, Switzerland, United Kingdom, across the major client segments as we look at those segments. So on the collective business, I mentioned that asset managers in Europe use the offshore footprint to distribute their funds into Europe and passport the funds across lines but also into Asia. And you can see, the green here, the 43%, that's the size of that offshore collective funds business. And we have a dominant share across Dublin and Luxembourg and provide clients such as Eurizon Capital in Italy where they, as I said earlier, provide product in country. So it's important for us to be in country with Italy but also have a heavy platform in Luxembourg if they used to passport actually into Italy because of tax benefits but also across the other European countries. And it gives them a cheaper way to distribute their product across Europe.

In the insurance business, so a lots going on in insurance particularly because of Solvency II [ph]. We're seeing a lot of consolidation. People are buying up late in pension pools. And again, if you look at the countries that we service, United Kingdom is the largest -- well, actually, France is the largest, United Kingdom is second and Germany is the third. And we have large pockets of clients in those capabilities that we're working with as they think about the implications of Solvency II [ph], as they buy more asset books and actually, quite frankly, as they create asset managers or use their asset managers to distribute back into the collective funds into the offshore -- into that offshore business. So companies like Alliance and AXA are really global firms that drive their business out of those local countries but are driving their product around the world.

And then finally, the pensions business. Jay talked a lot about the trends that we see. We're still bullish on the intermediate to long-term trend in the pensions business. If you look at Europe as a whole, it has high net worth, which means there's a lot of savings. We've seen actually savings rise in recent years through the crisis. They happen to be sitting on cash right now. But as we muddle through the European markets and the European crisis, you'll see more asset accumulation coming in. All of the companies -- countries are dealing with their pension liabilities in one way, shape or form is through public means or private means. And even in this destructive environment, they are still working on their regulations to improve the pension market. So if you talk about the U.K., for example, we work with a company called ESMA U.K. agency that provided -- that provides client contribution platform across the lowest unprotected worker in the U.K. They came to us, consulted with us on quite frankly SSgA in the bank on that product and then awarded us the business.

And then finally, if you look at the last 10 years of the growth, you can see why we are bullish about non-U.S. growth. Not only has the CAGR been good over the last 10 years generally for the market, but you can see our particular growth in both our major segments at the top, in the green, you see that our assets under management grew at almost double the rate for the European total collective pooled assets. And then on the lower right-hand corner, you see the global services growth assets under custody administration, and again, that is as high as it is both through organic growth and through the acquisitions that we made. We think that the regulatory complexity, the reach for new product and the need for clients to distribute more globally really sets us up in Europe for this type of growth in the future.

I'll turn it over to Peter now.

Peter O'Neill

Thanks, Joe. Let's now turn to Asia Pac, which for the last decade has been the fastest-growing market in the investment world and certainly, therefore, very attractive to State Street and its clients. What I'd like to do is give you some background on the market and try to underline how important long-term commitment, presence and global reach are for success in this particular space. As you'll see later on, Asia government asset pools are very important. There is a rising or growing middle class where wealth is increasing. And collective investment markets like Australia and Japan are attracting the attention of their large global firm managers. So recognizing that opportunity existed during the '80s. State Street opened its first offices in Sydney and Hong Kong, and then during the '90s, expanded that footprint into South Korea, Taiwan, Malaysia and Brunei.

Now I should make clear that we don't establish large scale operational presences in each of these locations, rather, what we do is we set up sales and client services offices with the processing the operations conducted out of lower cost locations like India and China. And in fact, at the moment, in China, we have about 500 people, and in India, about 3,800 people producing high-quality, lower cost operational support for both global services and Global Advisors, not only in Asia Pac but around the world. And as you can see across the 10 countries of the region, we have now a total of about 6,900 employees.

So Asia is expected -- is about the same size as Europe, and for the last 10 years, it's enjoyed a CAGR actually of about 11.5%, which is significantly higher than the U.S. And we do expect that trend to continue for the next 5 to 10 years. Clients, typically the same as Europe and the Americas, sovereign wealth funds, central banks, insurance companies, fund managers and pension funds. And of course, the services and issues, the services and products they demand are very much the same as our clients elsewhere in the world. So breaking down the total market, you get some idea of the fragmentation that exists in this region and also the scale of the opportunity in each segment.

So unlike Europe, Joe talked a little bit about growth coming from client acquisition and consolidation within the industry. In Asia Pac, growth has largely come from the emergence of new markets and also the rapid expansion of traditional markets in the region. But also some other major differences from Europe, as you can see, we have an extra circle here, 43% of the assets in Asia Pac, with government-related institutions and quite frankly, in many cases, unavailable to service providers like State Street. However, I think it's reasonable to expect that as we've seen elsewhere around the world, over time, those assets will be released into the private sector to support pension funds and other long-term saving plans. Collectives and pensions are smaller, but getting the population demographics, we do expect that they will grow to around about $5.5 trillion and $7.5 trillion respectively by 2014.

You can see the importance of Japan in the insurance pension and government asset sector but also the emergence of the Chinese market. Now we've been in Japan since 1990. We're currently the largest foreign trust bank in Japan, and our clients are global domestic institutions and also the large global fund managers. Australia, a key market in the pensions and collective space, Australian superannuation schemes currently total about $1.3 trillion, unlike Singapore having mandated annual contribution. At the moment, that's about 9%, but we expect and I think the market expects that, that will shortly rise to 12%. So we are expecting significant growth there. And that's a market that we think will reach about $2 trillion by 2014. And we see the rest and the some superannuation wins which you may have seen that we've won over the last 6 months. We've really captured or we won 2 of the 3 large mandates that have come to that market. We also think we're well placed to capture a good share of the $80 billion in mandates that are expected to come to the market in the next 12 months.

So as I'm sure you're already aware, Asia is a growing market and one that's full of many opportunities for State Street. However, the fragmentation is one of the key points, and each of the locations and segments that you see values commitment. This isn't a market where you can be present in 1 or 2 locations and dip in and dip out of opportunities elsewhere, you have to have the commitment to the region. To be credible with clients, you need to be in each location, you need to have tenure, you need to show that you understand how the markets work and you need to understand the issues that they face.

Similar sort of slide and similar sort of message to the one Joe gave. What I think this does is underline how important our commitment and presence has been in this marketplace. As you can see, we've got an 11.5% CAGR, and the tenure is up to 2011 in this region. But you can also see how State Street has outgrown in both its -- that market in both its businesses. Assets under management up 20% in the same period, and assets under administration up 17.5%, clearly a benefit of our presence and our commitment to the region and it's one that I think or we think will be -- continue to be important to us going forward.

So now I'm going to pass it back to Scott to talk about the strategy.

Scott Francis Powers

Thanks, guys. I think you can see from both Joe and Peter's presentations and the fact pattern that exists in our businesses around the world, we've got some commonality in our businesses. We've got long and well-established relationships with key clients in the region. And we're on the ground with local, in many cases, indigenous leadership in those major countries and major markets, and they know those markets very, very well. They have key relationships with regulators, with leaders from an asset management of the collective trust, and in many instances, long history with some of the sovereign wealth funds and the government agencies.

Peter is correct in noting that in many instances, particularly in the developing markets, as capital pools form, there may be some limitations in the types of services we can provide in those markets, notably on the global services side. But that's often been an entry point for our asset management business to go in and establish relationships and then vertically integrate. And in many instances, just as we saw here in the United States, with the advent of Orissa, [ph] when the master trust business was concurrent with index funds, cash suite vehicles and the like, the opportunity to really leverage those relationships for all of the things we do across State Street is very, very strong. And there's been real evidence of that in our growth around the world.

You'll hear another commonality across our businesses, and that is that we're well positioned to help our clients achieve their objectives, meet their challenges and provide solutions. Every one of our opportunities in the markets that we serve are clients, and it's really driven by the trends that Jay talked about. It is increasingly a more complex world. Whether you're a sovereign wealth fund that's investing increasingly in hedge funds, infrastructure, direct investments and you want better visibility into those investments, better risk metrics and risk management tools or whether you're a pension fund whose kind of managed toward a very, very expensive set of liabilities but now with the aging population and the increasing longevity have significant duration attached to them, while at the same time trying to preserve a portion of your portfolio for growth, generating alpha to offset the effects of inflation throughout the long nature of those liabilities, clients are struggling in this environment with a lot of complexity. The increase in regulation, quite frankly, creates opportunities for State Street across the piece. So we have an opportunity to work with those clients. And last but not least, the asset management community. As one of the largest asset managers in the world at SSgA, I can tell you, we suffer and are challenged by the same trends that we see in other asset managers around the world. We're increasingly trying to take our fixed costs and shift them to a more variable basis, giving rise to the real flow of outsourced solutions that the global services business has taken advantage of. We have core competencies that we want to focus on, and the more we can shift our investment to supporting those core competencies so we can serve our clients well and the more we can take the utility functions and rely on very, very strong strategic partners to deliver that level of service, the more powerful and the more competitive we can be in our chosen markets.

So there are clear trends here that we're well suited for across our business. They're global trends, and we expect to continue to take advantage of those trends and deliver very attractive growth opportunities from our non-U.S. business.

Jay, do you want this back?

Joseph L. Hooley

Thanks, guys. Now we're going to open it up to Q&A, and we do have folks coming in to the webcast. Mike, I'll leave it with you, but let me just -- I'll have Mike first...

Question-and-Answer Session

Joseph L. Hooley

I was going to go first but you beat me to it, so go ahead.

Unknown Analyst

We played a song with weight plan in the title and then [indiscernible] Europe. So I'm just -- it's just Europe presentation seems like the same one you've had for a while, and I'm just wondering if anything has changed and what's taken place?

Joseph L. Hooley

Yes. Let me frame the question. I'm going point to -- I'll let Scott and Joe take it on. Because I do think what we -- our view is our view. But with the European turmoil that most would argue is not over yet. I guess to tighten the question up a little bit, how does that affect our short- and long-term views? How's that affecting flows? How's that affecting decision timeframes? And how does it impact our view around acquisitions in Europe? So is that fair, Mike? Go ahead, Joe. Why don't you...

Joseph C. Antonellis

Sure. You'll hear me start in my little piece that we still are bullish on the long term and actually the intermediate long-term in Europe. I think there's enough of trend that's going on in terms of savings and pension reform, it will continue to drive. And the complexity that Jay mentioned 3 or 4x in his presentation, every asset manager that I talk to wants to spend money on 2 things, on products and on distribution. They don't want to spend it on infrastructure, on regulatory reform, if they can avoid it. Obviously, not any of us do, but we think there's opportunity in that for us. And as asset complexity and prior complexity comes out they like to offload that to people. So even in this destructive environment where we have seen the de-risking last quarter, we've seen some of it. You guys have seen the flows come back a little bit, but I wouldn't get excited about that yet. I think it's going to lag in Europe. But even in that environment, people are still coming to us and talking about how do you help me with my burden and how do you give me a solution that will help me distribute around the world, distribute through Europe or make it easier for me to create product. And I think that's important why we're positive on that. In terms of acquisitions, we've always been gung-ho in acquisitions. You saw the number of the lead table that Jay showed. I'd say right now, of course, I think we'll be a little bit cautious given what's going on and a big valuation question out there with the way the markets are roiling. So we're keeping our eyes open, we're totally opportunistic. I do think this disruption is causing a lot of those banks to look at the amount of money they have to spend on the infrastructure and the technology and the physical presence to stay in this business. And I think that will bode well for us in the intermediate term. Scott?

Scott Francis Powers

Just let me reflect on the asset management business. The same macro environment, slightly different kind of impact on our business. We certainly saw with the advent of the European sovereign crisis in the third quarter a disruption in planned asset allocations. So where we had hiring decisions that were made, we didn't see funding. And that created a bit of a lag from a new business flow. We also saw a significant amount of de-risking. Any exposure that cross-border investors had to European equities and European debt offerings, particularly to the European banks, we saw significant flows coming out. So clients de-risking and quite frankly in that flight to quality, flight to safety going into both cash positions and importantly within cash from kind of prime money funds into government funds. And then even more kind of exclusively into bank balance sheets where even though the returns there are nothing, they were very focused on safety in principle. So we saw that disruption in Europe in the third quarter, and quite frankly, it lagged into the fourth quarter and we saw a little bit of a wrinkle in December and in January where we started to see some of those flows come back. But I would concur with Joe, I think it's too early to say that's a trend. But the big picture still remains the same. There's still a huge pool of assets there, particularly in the retirement space. We see Solvency II [ph], having a significant impact on insurance companies, and we see the opportunities long-term to be very good.

Joseph L. Hooley

Let me just make a narrow point, but Scott touched on it, I'm not sure you picked it up fully. In the third and fourth quarter, with the banks under pressure, there was liquidity concerns. And so you saw banks moving to the extent they could, investors from investment products to bank products, which shored up their liquidity profile. I think as you see the ECB has done from terrific things to shore up long-term bank funding, which should ease that burden of liquidity pressure on banks and the banks will be incented to move that more towards investment product which feed into what's attractive to us. And let me just -- because I want to make sure we get this question out. On the question of acquisitions, let me just expand on it a bit. I showed you the landscape. I think if I would ask Joe who he worries about as a competitor in Europe, it probably wouldn't be the folks on the right side of that chart, the local banks in Europe. So I think that they're -- they are already falling behind with regard to the competency of their product set, their focus. So they're not growing their business. I think it is inevitable. You'll see roll-up opportunities. I'd also say that there will be fewer buyers. So if you look at the buyers of custom e-books of business, I think there will be few. So I would say our posture today is characterized by 2 things: one, caution. So we don't think that Europe is out of the woods yet, although there's some good early returns with regard to stability. And the second is pricing discipline. So we think that there are fewer buyers, and we're going to be cautious not to jump into something if we still think there's risk of turmoil in any particular market. And we're going to be pretty discerning on a pricing basis. Steve?

Unknown Analyst

Yes, I have a few questions. First one is actually following up on your comment. So the European banks, I mean, I can understand why they may want to sell some of these processing business, custodian businesses because they lack scale or they want to make the investment. But at the same time, it is the source of deposit for companies that already has kind of high loan-to-deposit ratios. Did you think that will be a constraining factor in some of these properties coming to market? And then the question was just for the lock in an Irish-based kind of European passport scheme, is there any possibility in the future that, that will come under pressure because I thought it was originally kind of set up to kind of evade taxes to some degree? Like Germans, I know they were buying funds to lock and then maybe not, I mean, supporting as they should is something along those lines. I just want to get clarity since you're clearly seeing pressure on some geographies like Switzerland, international.

Joseph L. Hooley

Joe, I'll take the first one, you take the actual 1. On the first, Steve, your comment is astute, which is banks looking at secure sources of funding would view custody deposits as do we as a nice, long-term stable source of funding. So it is a factor, but I would say materially, it's not a factor. If you look at the big European banks that would have custody books of business in that portion of funding that is tied into the custody business, I wouldn't say it's a material factor.

Joseph C. Antonellis

A question about the offshore. You have to think of the offshore business as a highly-regulated, sophisticated platform sanctioned by the European commission. So their product can be sold -- can be put together and sold throughout not just Europe quite frankly because it's so well-regulated. It's sold into Asia, and the Asian markets actually accept it. These aren't secret deposits. There's no privacy issue there privacy-wise but nothing like -- you talked about with Switzerland private banking. These are valuable products, much like the mutual fund industry in this country that people come to agree on. Now, that also doesn't mean at all that tax improvements, tax benefits always stay with that product. Italy's a prime example. A lot of local Italian fund assets has moved to Luxembourg to be sold back in Italy because of tax advantages. And the local product base asset management were complaining about that. So Italy has changed some of its tax loss to make it less so, but they're still an equal balance and they're both still growing. So it's a widely accepted product base that people are looking forward to grow. And usage is not coming under usage 4 and 5, so there's more regulation coming to continue to grow that product line for them.

Unknown Analyst

Scott, from an asset management standpoint, how do you view offshore as a distribution?

Scott Francis Powers

So we have obviously -- the primary objective for most local investors have local product in local packaged capabilities, but it's hard in every country we compete in to have that standard. So we've leveraged the offshore structure, used its funds, Dublin-based funds, et cetera, as a product that we can sell across the space, not only across Europe but into Asia. You see a significant amount of flows for usage-based product coming out of Asia interestingly enough. And we're seeing the same thing as we go forward with our expansion in our ETF business globally. So out of the 32 new funds we launched last year in the ETF business, there was a significant portion of those listed in Europe. And we tend to start with 1 local exchange listing and then cross pollinate so that we can offer the products across Europe. So it's for us a efficiency vehicle, and that's the way we use it. I do think you'll see increased disclosure under usage 4, and that will enhance everybody's understanding of the products.

Joseph C. Antonellis

We actually have clients who are going to move from 10 or 11 management companies per jurisdiction to 3. They'll stay in a local market. If they want to stay in it, then they use the usage platform to distribute it to the rest of European -- and that gives them great efficiency.

Joseph L. Hooley

We got a few questions here. And before I do, let me just get Peter on the loop here. Let me just talk about China for a minute. I'll ask Peter and also Scott on this. Booming economy, even though it's slowing, it's still running at high rates of speed. How do we view China from a standpoint of current and future potential threats of servicing an asset management, and then I'll go over here. Go ahead, Peter.

Peter O'Neill

Sure. From an asset servicing point of view, I think everyone's aware the Chinese economy is moderating. But certainly, with secular activity in the domestic portion, things like industrial production still picking up, so like you, I think China is going to see a hard landing. As I say, I think it just looks like you're moderating in the economy. And certainly, across the whole region and in China, the trends that are driving States Street's business forward, aging population, complexity, globalization, et cetera, are still very much in force here and in some ways, overpowering what's going on in the Chinese economy. In China itself, our businesses -- typically, our focus has been the large government institutions. These institutions have longer-term views in terms of returns and risk, and also their source of funding is pretty stable. So they are less affected by short-term or medium-term turmoil in the economy. Also, we're seeing a great number of opportunities arise in China as the market starts to open up and liberalize. They're starting to be greater allocations to the international markets across the government institutions but also across as regulation changes, the fund segment, the pension segment and the insurance segment. The new fund law that's about to -- that's come out in China is going to allow fund companies to outsource back in middle office, which will create opportunities for State Street going forward. You've got the emergence of the offshore amenities [ph], which is currently about $600 billion in size but the Chinese government seems to be interested in promoting. Our global clients want to gain exposure to China. This creates opportunities for us in terms of servicing assets and providing execution capabilities. So, yes, there's a slowdown. It is a moderation, I think most -- or a moderation in the rate of growth rather than a hard landing that people are expecting, and the opportunity do seem to outweigh that from a servicing perspective.

Joseph L. Hooley

Scott?

Scott Francis Powers

Yes, I mean, China obviously offers opportunity for us, but it comes wrapped in complexity. So the capital formation that we typically see and what you think of as emerging or developing markets, which is the first phase, is clearly well underway. It's hard to think about China as a developing market or emerging market. It's such a big, big, big market in and of itself. But there are certainly restrictions. It's a controlled economy. We've tended to benefit in those instances first at the asset management level through investments that are cross-border investments on behalf of official institutions. And that's certainly marked our business relationships in Canada -- in China to date. The bigger opportunity, I think, is getting into that domestic fund management environment and really taking advantage of those growth rates. And so the moderating economy, let's remember, we're talking about moderating to a 7.5% to an 8% growth rate, which I think the rest of the world would feel like would be a nice place to moderate at. So I think it's long-term, it's a phenomenal opportunity and it will continue to be when we leverage those relationships that start at the official institutions and then filter down into the core economy.

Joseph L. Hooley

Fran, and then we'll go Alex and then Glenn.

Unknown Analyst

A question on the effort to improve client profitability. Obviously, it's been something that's been engraved in your culture for a very long time. What are you doing differently now versus what you've done over the past 3, 5, 7 years in trying to improve client profitability? How bullish are you on your ability to do that over the next 3 years and the good comments on the core pricing as well? And as we think about how the macro environment moves around, is the clients' profitability improvement just a sort of rounding error in terms of what happened in the macro environment? Or do you think that's more of a structural [indiscernible]?

Joseph L. Hooley

I'll start this one and then I'll let Joe and Peter speak from -- because there might be some nuances from a European and Asian standpoint. But I would say -- so how was it different? And I would say 4 to 7 years ago, the markets were growing. And if we had a relationship that maybe was a substandard from a return standpoint, as long as we stayed with it, the markets would grow its way into profitability. So while we've always had good metrics around customer-level profitability, it's only been in the last 2 or 3 years that we've fully engaged them in a way that we were active with customers to say that if something changed in particular, a change being a somebody exited a product like securities lending or took some action that we're back in front of them, saying what, "we need a way to repair the financials of this relationship," I would say, historically, the first move was to cross-sell. So we cross-sell global markets products or other activities or we convince the customer to consolidate more work to us because we always think that's -- we always have the long view that we want to have these relationships for a long period of time. I would say more recently, it hasn't become more sharp-edged but it's become more of a broad-based call to the whole organization to make sure that if there's a relationship that needs consideration that we're in front of it in a direct way, figuring out how we work through it. With regard to the materiality of the pricing leverage as a means to recover top line and bottom line, I would say it's moderate to minor. My view on this is that what we really want to do is to continue to differentiate our product. That's because we have something unique out there or we've been able to create a bundle of services which are hard to compare to the broad-based market, and that's the way to get pricing leverage. So I think that pure pricing increases, and I know -- I hear all my competitors talking about it. I mean, we're all getting a little better at it, but I don't feel it as the panacea. The panacea is to make sure that we invest, differentiate, and that's the means by which we create healthy financial relationships. Peter, Joe?

Joseph C. Antonellis

Yes. You said it all, Jay. But I think the only thing I'd add is first of all, [indiscernible] the answer to the question is you have to have tough discussions with them. But I don't think it is difficult as they might otherwise be because I think as you lay out the business case with the client, they understand what's going on in the marketplace. They've challenged themselves. So I think even more so now, we've always been a great company that would cross-sell. Even more so now, they really understand the word, "wallet share," when you talk to them about other ways of getting to the appropriate, level return for ourselves and making sure that they value those assets. And then secondly, this change and its complexity that's going in, if you continue to innovate around that product edge, you're going to be able to show -- you're going to get commoditized prices at the low end. Some of those custody banks waive the right to league [ph] table are in local countries only. So they're competing only on price. They don't have capabilities. So you kind of forget about that and compete against the value added that you can provide to the 8 pension funds and the insurance companies and -- so we're doing a lot with pension -- with insurance companies today around in new distribution model. A lot is changing there. They have -- they can't pay fiduciary advisors the way they used to. And we're helping them with that. We're looking at platforms with them. So you need to go into those environments with them and be really creative.

Scott Francis Powers

The other I'd reflect on is that all the comments thus far have been at the revenue side of the equation. And as we get better and better and across our businesses we're getting better and better in understanding the cost of service related to those types of relationships, wherein there may be inelasticity of pricing, you can get at it with different and more efficient service levels. So we're all taking advantage of low-cost locations today. We're all streamlining our service levels. We're all rightsizing the service delivery to the fee and the pricing relationships we have with our clients. And that's another way to get at both of -- the combination of top line and expense is getting at the profitability.

Joseph L. Hooley

Any different in Asia, Peter?

Peter O'Neill

No, it's very much the same in Asia. The only way to create leverage is through product differentiation. That's easier to do if you're talking to a client who wants a global coverage where we can play the global footprint card and say, "We can service you here in Asia. We can service you in Europe. We can service you in the U.S." But if you're up -- if it's a domestic bid and you're up against the domestic player, it's hard to create that level of differentiation. But what I can say is that from my experience, it seems easier to have those conversations with clients in Asia than it was when I was in Europe. The attitude towards Asia is looking a broader agreement that says the Far East seems to be an easier conversation to have.

Joseph C. Antonellis

I guess the one thing -- the only thing I'd like to add, just one thing. So that's speaking to existing client base, but our pricing model is very dynamic. So we've build into them the current environment, the outlook for volatility, the outlook for spreads and all of that, so -- and we're pretty open and honest on those assumptions with the client. They kind of -- they'll understand that it's part of the pressure on. So we can then drive a higher fee-based price, recognizing that some of the instant revenues that we used to get at the same levels that they're once were.

Joseph L. Hooley

Alex?

Alexander Blostein - Goldman Sachs Group Inc., Research Division

This is probably going to be a follow-up to this, just maybe drilling down a little bit more. We've got an outline of pretty compelling case of why globalization works. You guys are -- you're growing your revenues outside the U.S. faster, et cetera. Can you tell us a little bit more about the profitability around the world and outside of everything you do on the cost side already just because the non-U.S. business will continue to get bigger? What does that do to your margins over time?

Joseph L. Hooley

Yes, let me just give you -- I'll set the stage at the top line. At the top line, if you look at our U.S. and non-U.S. business, margins are on top of one another, plus or minus. So pretty close. Now anyone of you can jump in on the question. Joe, you've operated in the U.S. market, the European market. Peter, Europe and Asia. How would you say those markets differ from a standpoint of margins? And I would throw competition in there because competition is a factor.

Joseph C. Antonellis

Well, first and foremost, the U.S. market is much larger for us. So there's a lot more scale there. So we have the economies of scale factor. I think that is because it's a much more distributed market for Europe and Asia-Pac, right? They're all in individual countries. Even though we put processing centers in place, we still have to have those open countries, and that drives a little bit higher level of cost into the equation. And then, I think, we are on the same track. You're going to hear it later with our colleagues on the business and IT transformation. We're doing the same thing around the world on that business, IT transformation line. So we all have to get those efficiencies that Scott was talking about and try to drive to keep those margins the same as Jay described. Because they are pretty much on top of each other. We get it in different ways a little bit. I think the -- in the U.S. market, we'll obviously drive much larger U.S. dollars in the offshore than the European and Asian markets' transaction balance that we have to pay on. So there are different ways to look at the pricing model and the revenue model. But again, the margins are pretty close.

Joseph L. Hooley

So let me just translate that a bit. The U.S. -- and you see -- didn't see it from the chart, but you've got a $10 trillion funds market, a big pension market, big scale market. So our cost to deliver service in the U.S. would be lower than it would be in Luxembourg or London or Singapore. So we're able to deliver the same margin, but I would say our costs are lower in the U.S. versus outside the U.S. So implied in that is the higher pricing outside the U.S. Peter?

Peter O'Neill

I think that's fair. I think, like I said, Asia is catching up very quickly with the sort of pricing that you saw in Europe. I think that will continue particularly in places like Australia, where as they say, you have this very large superannuation industry that is going very aggressively and everyone is to break into that segment. So you're seeing a lot of pressure there, but it's catching up with Europe very good.

Joseph L. Hooley

Let me ask the question. You didn't ask it this way exactly, Brian. But Joe or Peter, there's a lot of noise around people getting a little more backbone around pricing. What's -- any evidence on the market when you're dealing with RFPs or new business? What do you see?

Joseph C. Antonellis

In the European market, we don't see that. In fact, what we see is people trying to -- because of the footprint we have and our end-to-end capabilities, we actually see people try to underprice us in the competitive market pricing. So we tend to hold our own. We'd walked away from deals to make sure the market gets the message that we're not going to go for any price. But the competition, because of our positioning, particularly in today's market, we don't see a pure -- in Europe and probably in Asia as well, we don't see a pure fund accounting custody deal alone. It's always with some sort of middle office. And given that market share we have in our installed base, they'll recognize we're the one to come to. And so the only way competition competes against is way down on price.

Joseph L. Hooley

I mean, just to accelerate a point Joe made, because a lot of these markets operate through third parties like consultants, and so there's a handful of consultants that have a sense of pricing on the market. And so recently, in some fairly high-profile deals, we've stepped back and sent the signal. That's our way of sending a signal that there is a price at which we'll let deals go. I think if others are true to that, then you'll see some firming up in pricing. Peter, do you want to add anything?

Peter O'Neill

No, I mean, I don't see any evidence of it at all in Asia. It's very competitive.

Joseph L. Hooley

Glenn, did you have a question? Yes?

Glenn Schorr - Nomura Securities Co. Ltd., Research Division

I actually have one on Europe and one on asset management. For Europe, coupled with the fact that you drew out earlier today, 80% of last year's new revenue growth came from existing clients, and your top 100 clients have 20-year relationships with you and half of that have 11-year relationships. So besides the capital needs, which are obvious for some of these European banks, it's a good business that people want to be in to your point on pricing. So the question is, are single pieces of businesses freeing up because it's such a long sale cycle business? Do you see single piece of the business freeing up? Is that an impetus for consolidation? And then, Jay, to your point on tighter pricing, how do you mean -- meaning you've tightened ROE projects. Can you give us specifics on it? Or is it more, we assume less cross-sell, lower rates and sort of...

Joseph L. Hooley

Sure. On the first question, were you talking about acquisitions that weren't whole businesses but small pieces of?

Glenn Schorr - Nomura Securities Co. Ltd., Research Division

I was talking about single pieces of businesses, if you...

Joseph L. Hooley

Just an RFP process.

Glenn Schorr - Nomura Securities Co. Ltd., Research Division

Correct, correct.

Joseph L. Hooley

Yes, let me -- Joe, why don't you speak about the -- I guess, the question may be best served by talking about the deals that we walked away from. And what were the -- was it pure pricing? Was that ROE? Or how do we look at it?

Joseph C. Antonellis

So I think the question -- I want to make sure. I think the question is, are we also seeing organic growth? So hand-to-hand combat, winning deals. And I think if you look at Europe and particularly last year, we won a lot of those deals. We had a long time client, Scottish Widows, had gone off for rebid. But this time, Lloyds, their parent, had purchased the hedge [ph] clause business, consolidated those assets and decided to go out and put that all out for bidding. And we had to go and competitively and win that and bring that business on. So not only did we win the rebid part of it, but we had -- we added substantially more in new revenue because of the new business. And we have done that in Europe with probably a whole handful of clients. Last year was a big, big win here last year. You saw the numbers on the installed base. We still are continuing to install that. Then going back to the 2 -- I won't name names -- the 2 situations we worked on. As we look at the deal -- and we get a profile from a client. So what the assets look like, the transaction counts, the number of portfolios out there, the whole complexity of it, we put into our model. We work with them and let them understand it. People -- in one case, on a $25 million piece of business per year, we will get bid -- we're seeing bid moving $8 million below us. And these were competitive bids that we've just been on the marketplace on. So that's where we churned in those 2 cases and said to the consultants, in particular, because the consultants can drive that type of price competition. And they said it doesn't make sense for anyone to do this business. A, the clients are never going to be happy because you're not going to deliver good value with that level. And secondly, it doesn't make sense for our business model. So -- but there's a lot of organic deals out there. We have a pretty good pipeline. I would say the current environment is just slowing in decision making around that pipeline right now, but I think it's robust into the future.

Joseph L. Hooley

Let me just make a few points here. The -- Joe's point about pricing in effect that we're not selling a commodity product, particularly when we talk about a fully bundled service that oftentimes include the middle office. It's pretty important that the customer gets somebody that's committed and that's doing a good job. Once you get to these more complex deals, I don't care whether it's in the U.S., Europe or Asia. There's a very short list of folks that can do that. And if those people are standing up behind pricing, then you'll see pricing from up in the market. In the smallest stuff that commoditize effectively, I think there will always be a price taker. Glenn, you had an asset management question as well?

Glenn Schorr - Nomura Securities Co. Ltd., Research Division

Yes. But not to let you off the hook on [indiscernible].

Joseph L. Hooley

Okay, keep going.

Glenn Schorr - Nomura Securities Co. Ltd., Research Division

That's correct. You talked about tightening your focus on and being real tight on how you price flow [ph] coming in. Is there are an ROE focus? Or are you assuming lower rate longer, less cross-sells? How do you tighten on the range on how you price deals?

Joseph L. Hooley

Is this on the acquisition front more?

Glenn Schorr - Nomura Securities Co. Ltd., Research Division

Yes.

Joseph L. Hooley

So on the acquisition front, I think that we've got -- we've had -- we've got a lot of history. So we've done several of these. So I think we have a pretty good sense of what's advertised and then what we see in the form of, once we get a deal, certainly the hard fees, the customer retention. The judgment is really around the market-based revenues and foreign exchange. We typically -- that's not typically a part of a deal structure. So it's really around the balance sheet and how we view our ability to earn off those assets that we pick up. That's really the part that's most variable. And I'd say we make pretty good and generally conservative judgments about that. The critical -- for us, other than those points, a deal -- a successful deal has a couple of simple characteristics. Can we retain the revenue? We have 90% retention targets, always in excess of. We've never missed that. Is the underlying customer base attractive? Is it going to grow? If it's an investment manager versus a pension fund, it has inherent organic growth characteristics as new funds get produced as flows occur. So that's one part of the equation. And the other one is the cost side, which is in these custody roll-ups, if you go back over the course of the acquisitions that we've made, we've been between 35% and 50% cost takeout in those situations, over generally 1 to 3 years, and we've always achieved those goals. So I think on the acquisition front, we've got a pretty good model for assessing the value of what's being acquired. I think the point that I thought you were going to poke at was the pricing point, which is as we evaluate what's an attractive acquisition beyond what I just said, it would be accretive in the first year. We have, as Ed will come on to, if you look at the slides, we have a hurdle rate of weighted average cost of capital which rests at 8.5% today. It would have to be above that. So I think we've got a pretty good model for assessing the value and from a pricing standpoint, I think pretty good discipline. My point about increasing the discipline is that I think we're in a place where the buyer-seller equation is unbalanced in our favor. Kenneth?

Kenneth M. Usdin - Jefferies & Company, Inc., Research Division

A question maybe for you and for Scott as well. On the context still of M&A and international opportunity, the company has been linked with potential deal that's out there in the marketplace, one that you service. And to your point about being able to get synergies out of out there, I wonder if you -- could you expand the discussion and talk about where you think M&A makes a move then from a strategic perspective? So active asset management versus company and then the global context. Can you just wrap it altogether for us?

Joseph L. Hooley

Yes, let me -- I'll do the top down and I'm going to leave the asset management question to Scott. We operate in 2 broad segments, asset servicing, asset management. I would say acquisitions look attractive to our screen for asset -- for acquisitions. Joe referenced it earlier, would be, one, is it strategic? I define strategic as, is it in a geographic market that we're not in? I view Intesa as strategic. We weren't in Italy. It brought us into Italy. I put Deutsche in that same category. Second would be a product acquisition. There's a product that we don't have or product that we don't have in a region that we're interested in. We talked about a private equity acquisition last year. The third and least favorite would be, we're just buying customer contracts, because we think we can get the cost out and we think there's some inherent growth characteristics because of our ability to cross-sell and because of the underlying characteristics of those customers would make that attractive. So beyond that, Ken, I would say there's some specialty areas which tend to come in to the product strategy lens, and that would be -- we bought a crossing platform, Pulse Trading, a small acquisition, $40 million, $50 million, where as we move from the back office into the front office, sitting with the front office with traders, portfolio managers, there's a broader set of analytic capabilities that we think we should expand into. Some of that would happen organically. Some of that would happen through acquisition. So increasingly, we're looking at leveraging that space that we're in. So it would be custody roll-ups, if I could call them that, with that strategic lens. It would be in the data and analytics category around extension of our middle office and electronic trading as the third dimension. But Scott, why don't you comment on what your lens is for acquisitions and asset management?

Scott Francis Powers

Yes. It's a very similar discipline to the one Jay just described. It has many of the same elements. I mean, we first start from the point of view that we're very, very happy with the business we have. We know that to be successful, particularly in the index business, you have to be at scale, you have to be very efficient and you have to be capable of delivering a high-quality product to the client with all the characteristics that they require. So low tracking here [ph], kind of very efficient platforms, et cetera. And we are one of the premier players in that space and have been very successful in continuing to grow that business. We also obviously have the SPDR family of ETFs that quite frankly, we probably punch above our weight relative to that brand and the mind share we've got with intermediaries and then we intend to grow that globally as well. Where we would look for opportunities is where we have an opportunity to capture a skill set or a capability that we didn't feel like we could grow organically in a sufficiently quick timeframe to take advantage of market opportunities. As I mentioned at the front end, our clients are increasingly looking to us for solutions. And to take advantage of the true opportunity there, we have to be able to provide capabilities across the range of risk and return from cash to pure beta into active and into absolute return capabilities. So where we would be able to get a skill set or a capability that we couldn't grow organically in a sufficient timeframe, that would be attractive for us. Where we're able to capture some efficiencies or some leverage from a distribution standpoint in market segments where we may not be strong, that would be attractive. And obviously, the geographic reach -- globally, there are certain markets that it’s very difficult to start de novo and the opportunity to leverage an existing property with scale in those local markets. We'd certainly be interested and opportunistic about looking at those opportunities.

Joseph L. Hooley

Good. Vivek, why don't I wrap it up with you?

Vivek Juneja - JP Morgan Chase & Co, Research Division

Just a follow-up on that question because your name has been associated on the press with, I think, one of the bidders for the Deutsche properties in the active asset management and -- a couple of years ago, obviously, out of that [ph] -- I hear you're saying you want more capabilities. But can you talk a little more detail about what it is that you're looking for that is causing -- when that's a pretty sizable property which you're being associated with, given that you've completely got out of active a couple years ago? That magnitude of a shift, what's causing that? What exactly are you looking for?

Joseph L. Hooley

So you'd be disappointed if I ever commented on anything that was out in the press. I won't do that, but -- and let me just reflect, we have $120 billion active business today. So the idea that we got out of active a few years ago, you may be referencing the fact that we got out of a small active fundamental capability that we had that was operating on a subscale level, and I think that was a good decision. We since -- we entered the active fundamental equity business with acquisition of Bank of Ireland's active business last year, which is an acquisition that's gone quite well for us and met our expectations in terms of integration synergies. And while last year was a tough year for value investors and there are some in the room that I talked to earlier -- to generate the kinds of returns they would have liked, that team did a very good job delivering on our expectations from an investment performance standpoint. So I would counter that we are certainly not out of the active business but rather, we are focused on broadening out our active capabilities and taking advantage of client demand for alpha. Because as we see the separation of alpha and beta continue to be a trend, you wouldn't expect us to go out and try to buy assets, as Jay said, in the beta space, because I don't think anybody can do that better than we can and we can grow that business organically at very, very attractive margins. Generating alpha to serve our clients' needs for excess return is a trickier proposition to generate organically and it's -- that's one of the reasons we did the Bank of Ireland acquisition, which was very opportunistic and we knew that management team quite well. And we think that those kinds of opportunity can work out quite well for us.

Joseph L. Hooley

And Vivek, I would also say that don't mistake the asset management, asset servicing comparison here as us viewing one as being the same as the other. I think in asset servicing, we've got a pretty well-honed model for how we roll these businesses up. I have a lot of confidence in the execution around that. Asset management, we would have a lot more caution with regard to, because I think they're generally more complex businesses to acquire. There's not a lot of great examples of few successes. So "cautious" is the watchword there.

Vivek Juneja - JP Morgan Chase & Co, Research Division

One follow-up on the asset management side. What's your target for operating margin in that business as you look out, Jay and Scott, over the next couple of years?

Joseph L. Hooley

Well, I think that if you look at the 400 basis point margin improvement that we're looking at corporately, Scott is sharing that because he's riding on the back of the infrastructure that exists in the broader State Street. So I think the simple answer is as we get to that 400 basis points broadly that Scott should proportionally get at least a share of that. Yes, Kelly has given me the -- I'm going to thank these guys and we're going to transition to the expense side of the ledger and invite Jim Phalen and Chris Perretta to join us. Thanks.

[Presentation]

James S. Phalen

After that little vignette, I'm hoping my slide advances here, but no -- clearly, what Chris and I would like to do this afternoon is to provide you an update on the transformation plan that we announced back in November of 2010 and that we actually spoke a detail about at this conference last year. And so our game plan is to basically give you an update in terms of how well we're doing versus the goals we've set in that plan, give you a little bit of visibility into what the key milestones are and initiatives are in 2012 that are going to deliver basically those benefits in 2012 and actually set us up for delivering those benefits as well in '13 and '14. So we'll take you through that. We'll basically make sure you have -- I think we've been very transparent with, obviously, both the plan and how we're expecting to achieve the results that we have, and so we'll walk you through that. And then we're also going to try to get across the message that not only is this plan and this transformation that is going to deliver $600 million worth of annualized savings, as it says here, but it's also, we believe, going to create competitive advantage for us, okay? And we probably didn't spend as much time last year when we spoke about that of really talking to you a little bit more about the transformational nature of this plan, and so we'll spend a little bit on that as well. But again, to recap, we all know the targets that we set last year was $575 million to $625 million of the annualized expense improvement over the next 4 years and that we expect to be able to translate that, as Jay has alluded to earlier, into 400 basis point improvement in profit margin. And all things being equal was the message we gave at that time and, to be clear, we continue to give.

So let me give you -- walk you through just a little bit in terms of the numbers, again, because I think it's important. We get a lot of questions from this audience relative to the numbers, and so we want to make sure that we're hitting on those details. As you remember, there were 2 major component parts of that plan. It's the business operations transformation plan, where we basically had indicated we were going to deliver about $440 million worth of benefits over this time period, and our information transformation technology plan, which was going to deliver $160 million worth of benefits. And we outlined for you in the third quarter release, basically the -- how the breakdown by year in terms of how we were going to achieve that.

There's obviously a very, very detailed plan behind this plan that rolls up, and its part of a project governance group that we have. That's a separate group that drives our transformation assets. And really, this project probably has more governance on the IT business process side than any that we've had certainly in my career at State Street. So it has a tremendous amount, both investment assets and focus, that I think is going to be very important to our success.

You've also -- if you note here on this slide, you'll see we're spending about $300 million in here, not counting the severance and restructuring cost, really in getting these changes. And you can see, by year, the nonrecurring expense that effectively we're -- are incurring to basically produce that result. The first year of the plan, obviously 2011, as Jay alluded to earlier and we've indicated previously, we've gone ahead of really our earlier expectations. We're looking at -- we've achieved $86 million in annualized savings during that period. We're projecting our 2012 is $480 million. That's cumulative. So we now have $100 million approximately in new net savings during 2012.

So hopefully, that touches on the numbers piece, and what I'll do is spend a little bit more time now talking to you about the changes that we're making in 2012 and some of the enhancements we're making in 2012 to generate the results that we showed you on that last slide. And then I'm going to turn it to Chris, who's going to spend a little bit more time talking about the same thing on the technology side.

So again, to recap for those of you that weren't here last year, we said we really focused our transformation plan on 14 core processes, okay? And within those processes, we actually came up with about 162 initiatives to be -- I guess "approximately" is not the right word there, but 162 initiatives -- you can tell it's a little bit ingrained in my head here -- that really we focus on that are broken down and aligned with producing what the investments required within those initiatives and then what the benefits are going to be achieved by that. They fall into categories of either process transformation, as it says here, automation, consolidation, workforce optimization. Those are the 4 general buckets that, effectively, these initiatives fall kind of within. And the, basically, improvements that we've got last year that actually went faster than planned occurred mostly in the workforce optimization and consolidation space. So effectively, our ability -- when we set up some Centers of Excellence last year, as well as did some operating model changes with some office closure changes and others, we were able to move a little faster on moving some resource into those more efficient global centers, as well as shutting down some offices, real estate savings and some other things in that case. So those were the things that allowed us to move faster in 2011.

If you really look at 2012 and the key milestones that we're delivering in 2012, they're going to deliver the benefits that we've laid out there. There's 3, at least specific ones, we've talked about. One is we're expanding the use of what we call Centers of Excellence or COEs. And these, basically, are changed, where you're standardizing a process more and moving it into a more functionalized process as opposed to a distributor process, okay? It's a common operating model change that's made in the industry. We are adding 2 more Centers of Excellence, one in cash processing, one in corporate actions processing, that will produce some results -- certainly, some of the result for 2012.

We're also, in 2012, going to start delivering on the first part of the automation efforts, obviously. The automation efforts -- effectively where we change a business process and apply also new technology, sometimes changes in the applications, sometimes more than that to basically make that process more efficient. In total within the plan, we have about $130 million worth of improvements that will come through the automation lever. And in 2012, we'll produce about $26 million worth of savings from that piece.

Let me give you maybe an example of automation, just to -- so that you could see a little bit what it is. And I'll try to use a simple -- we have -- one of the largest automation efforts that we have or projects that we have is in something we call goal copy, which effectively what it is, is some redefinition of really our data module, okay? So that we're capturing that data at the earliest entry point. And actually, that information then is eliminating what often within business process are false positives that occur between systems that are talking across the world. And this is not within a single application. This is the fact that you heard earlier that we've got the most significant footprint out there in terms of product across the industry and the most geography, okay? When you have a combination of those capabilities out there effectively, the challenge becomes how you manage that data more efficiently and within the process. We will, with the first release of goal copy, and there will be 6 releases during 2012, will produce $3 million worth, $2.5 million worth of annualized savings by effectively changing a process that will eliminate an amount of labor that has to be done today in multiple locations around the world by workforce. So effectively, they will no longer have to do some task that they do today because we'll automate it. The system will automate that process. So that's just kind of an example of the type of thing that falls into that function. And I'll get back to that later because data is not only an opportunity on the efficiency side, it's a huge opportunity on the new product revenue side for us as we think about differentiating our product going forward.

So another -- third item within the milestones, and I'll turn it to Chris, is low-cost centers. You heard -- Joe indicated earlier we opened up Poland 3 years ago. We've expanded Hangzhou in recent years in China. We will be adding a couple more locations to our footprint in 2012, operation locations. We'll expand in Chennai, a new location in India for us. We are already in Pune, Mumbai and Bangalore. We will be adding additional site for basically a combination of getting some, again, geographic disparity within India, as well as taking advantage again of a talented labor pool and labor market that's there. We'll also be expanding an operation in the Philippines, our first in the Philippines. And we'll have an operational capability in Manila during 2012 as well.

So those are some examples of clearly how we're going to achieve some of the benefits that basically we've outlined for you to '12.

Let me let Chris talk now a little bit about what we're going to do on the technology side.

Christopher Perretta

Thanks, Jim. So what I thought I'd do very rapidly is to go through the technology components, the benefits and the milestones of the IT plan. So the first, on the left hand of the screen are 3 major components to the technology that we're deploying. One is what we're calling industrial-strength application development. That's a real enhanced engineering focus and basically will build the capabilities to build the business software faster. And it's important to note that a lot of our portfolio -- so we deal with our -- all the entirety of our systems, the ecosystem as a portfolio. We create ourselves 55% to 70% of that portfolio. So we kind of control the technology that we use. And so that's important because these new techniques are geared to take advantage of the new computing paradigms that are emerging, most -- namely cloud computing, take advantage of that computing power, and actually build the infrastructure. So that we could much more rapidly build software components that we can more easily adapt and customize and deploy much more rapidly. And the other, the third factor in this factory or the engineering function of the business is to be able to standardize the methods and tools so we can better leverage our people around the world, so that we can deploy people regardless of where they're located on any project around the world. They're talking the same language. They're talking -- they're using the same tools. They're using the same computing assets, if you will. And that's a really important part to go faster.

The second big component is the private processing cloud itself. So this is a vast array of an incredibly elastic, resilient and expandable computing capability that also includes the instrumentation, most notably the security framework which basically helps us better manage, monitor and secure the entire processing environment. So that's a big infrastructure component.

And the third, as Jim mentioned, is an incredible store of data that's related to the trillions of dollars of assets we store and process and the associated transactions. So when we talk about goal copy to Jim's point, that's a mechanism by which we understand the genesis of every piece of data in the system and we can track back to source information. And that wing-to-wing view of data or the lifetime of a trade is very important. It's an incredible, large amount of data and when you look at industry trade papers, we call it big data. So we have -- the third component is big data. And in this area, we're deploying the new data appliance technology which is in the marketplace now at large scale, and also proprietary technology that lets our customers merge the data that we store on their behalf with their data and to mix and match it in ways that makes sense for them. And that's an incredibly powerful tool when coupled with -- which is essentially infinitely expandable processing power of the cloud.

So those 3 components taken together are really driving the technology progress in this whole area. So in 2012 -- I'm sorry, I might note that the private cloud is up and running in production. So we've created this computing capacity. It's been up in production since August and we've begun moving our inventory of applications to it.

Now 2012 is always going to be the year of really turbo charging those efforts to change our infrastructure and to begin moving en masse to these processing capabilities, and we've mobilized our entire development effort around the globe to begin to do that this year in earnest. And this year, we'll see the realization of approximately 20% of the benefits earmarked for that activity this year.

In addition, that work is coupled very closely with the process work that Jim mentioned. Because as we simplify our processes and standardize them, the portfolio of business solutions that we have to support can shrink. And in essence, what we're doing is removing the variation and the technology in the business process which doesn't add value so that we can refocus on things that clearly distinguish us in the marketplace.

And the final major milestone for 2012 -- last summer, we announced expanding our service partnership with IBM on the infrastructure side and Wipro on the application maintenance side. This is routine operation of our infrastructure. We're leveraging their global footprint as well so that we can dedicate more resources to the more differentiating task that we have and realize efficiencies in those spaces. So 2012 is a year where we transition those tasks. It's a major effort of thousands of people's worth of work. We transition that to these providers during 2012. So that's really the focus for '12.

So -- but I thought it would good to step back to really put these efforts, both the operational work, the business operations we're doing and the technology we're together to put in a context so that we can clearly delineate the journey that we're on. And this is a slide and an analysis and a model that our colleagues at MIT have put together, the Center for Information Systems Research. We've worked with them for many years. And Professor Weill and Jeanne Ross have really studied over 1,500 companies that go through transformation. And we've always consulted with them as we proceed because they have a real deep understanding of how companies can progress through here. And it's instructive to see this transition. It really starts with businesses who really go after individual markets, individual geographies. They build standalone technologies to capture share and distinguish themselves in the market. Then they start looking for efficiencies. They standardize technology. They share infrastructure. But then it's time to move towards the more process focused exercise, where they clearly define an operating model, focus on the core business processes that span the entire enterprise, share data around the enterprise, which makes them much more efficient and gives them much more insight into their operation. And in the final stage is the ability to treat both business process and IT components as a modular building blocks which can be rapidly redeployed anywhere in the world so that they can respond to individual market needs. And that's the level of agility and the level of risk management and the level of performance that is the end game of any transformation effort.

So when you look at our industry -- we've asked Peter Weill of MIT to kind of assess where, say, financial services are. He pushed them into the standardized technology stage of the exercise. Now the retail part is probably farther up the curve than the investment firms, most notably because that area of the industry has done over great revenue growth over the previous decade. So they're now entering the standardized technology. Now with the efforts we're describing to you today, we're clearly in the optimized core column there, where we're really looking at, as Jim mentioned, identifying our core processes and leveraging them across the globe and upgrading our technology to the point where we can be much more modular. But the transformation program, let's make no mistake, is a relentless move of that curve so that we can begin to do that. So as an example, from the previous slide, we're building applications. We built an example application that we built in half the time we traditionally do using data. We built an application that allows customers to share data between themselves to understand how they price certain assets. That product was built on the basis of building blocks of data, of core business processes which can quickly be adapted in half the time that we'd have in past. And that's a very powerful message. So at the end of the day, when we look at comparisons, we don't look at comparing ourselves with our peers and financial services. We look at technology companies, we look at state of the art technology companies, we look at new wave, new age retail, we look in the manufacturing space because that's where we want to play and that's what the investments we're doing. That's the capabilities we're developing.

James S. Phalen

So I'm going to close on -- and clearly, the word "transformation" is probably one of the most overused words in our business today. We tend to -- any time we make a change to put the word "transformation" in front of it. We truly believe that the plan that we put together and we laid out and as you recall, has backed the work -- with groundwork was back -- done back in 2010 and early 2010 as we were putting these plans together. We were looking at not how only to take cost out. We were looking at how to create competitive advantage. What is the next stage in our business? And we actually look -- as Chris said, we looked outside of our industry because clearly, there were models there where both industries and organizations had digitized that data and created significant change in their competitive advantage in their industry. So we got enamored looking at that first and then really, at the same time obviously, we knew just how to justify that financial investment and we put those 2 combinations together. Where effectively you had to be willing to change a business process and adapt new technologies, okay? If you were only going to optimize for IT, okay? You could make improvements. But they would be suboptimal versus if you're willing to change your business process and to make an investment in the data, okay? That allows you to actually treat that information very differently than we do today. Chris already gave you an example of we're expecting 30% improvement in time -- a development time going forward as we get our new model in place. Another speed advantage that we would see coming from clearly this new model is onboarding. We onboard clients with simpler implementations, 3 months to 5 months of the IMS [ph] or middle office implementation, maybe 12 to 18 months. We're looking for 20% improvement in those numbers, okay? In other words, less time. What does less time mean? It means less cost, yes. But also, to our clients, it means less risk, okay? And the clients -- they get less risk is one of the equations they look at in selecting who they select to do that job, okay? And to the extent that we can differentiate ourselves with speed in onboarding of new business, okay? We'll win more business and that business will commit a more profitable rate. As Jay said, the key is trying to establish something that will differentiate our product in the marketplace. Speed is certainly one of the ways that we'll be able to do that. Secondly, agility. On the agility side, probably the best example we have there, Chris has said, big data. I think you heard earlier from Scott. You saw on Joe's presentation that our clients are clamoring for help with their data, okay? And the complexity of the data for firms has got significantly challenging, okay? We have the opportunity with the secure private cloud and a new data module to offer significantly new products, new enhancements, new business models, okay, for our clients going forward. This is an investment that we've made that's going to return $600 million in annualized expense saving, but it's going to create new product revenues and it's going to create differentiation with our customers on our existing products today.

So our message generally, obviously, is we're on plan. We're delivering on the plan that we laid out in 2010, but we think the piece we didn't talk about as much last time is the real opportunity to create competitive advantage with the investment that we're making here.

Joseph L. Hooley

Let me now spend a few minutes on Q&A, and I'll do the same thing, look for hands or some kind of signal for questions. Let me just warm them up with one question. Whether it's transformational -- I believe it's revolutionary in this transaction processing business. We'll look back 10 years from today and say that revolutionized the business, and it's really around this data aspect. But it also seems to me, and I think seems to you, that we're out in front a little bit when you look at the other financial firms like -- I'd ask Chris or Jimmy, either one can jump in. Why is it that others aren't more on top of this, particularly in the financial markets?

Christopher Perretta

I think one of the reasons I mentioned before is that to take advantage of the technology. As Jim mentioned, you can't just get the savings from using less expensive hardware in this new paradigm. And that's interesting, but it's very focused. But sometimes, you use other people's software. So we -- the software we use to run our software is mostly all ours, right? We built it. And so we have control of what we call the stack of technology that we use. And so when you have that capability, you can dictate the target production environment to a greater degree. And so that's what we've done. And that's why when we're looking at the savings and the opportunities, it doesn't only extend into running the software you have. It extends all the way up the food chain, to how I actually build it. And then we couple it with the business process reengineering that we're doing and it becomes incredibly powerful. Every technology person in the world would say or always struggles with justifying investments in what we call architecture of the system. It's typically done below decks. We've been able to tie that investment to real business process improvement. And so the universal benefit is much higher. So we've been able to justify a much more bigger and much more expansive investment. And obviously, we're delivering those returns. And so at the end of the day, right? Being a technology zealot that I am, the physical manifestation of our product is sitting in the technology as our product. How we build it matters. And so we've been able to tie that to the business process, the technology and the way we run it. And I think we're unique in that capability.

James S. Phalen

Jay, I'd just add to that, that it also requires -- we said we had 14 core processes that were part of the business operations transformation piece. And we had to have an agreement from the senior leadership team across all the businesses that everyone was going to play in designing the best practice process. There's not a lot of organizations, okay, that those individual businesses are going to see the benefit, okay, of effectively deleveraging that process horizontally. And so whether it's SSgA, whether it's global markets, each of our businesses clearly contributed a significant amount of both ideas and generating what I would say are best practices.

Christopher Perretta

And I would add, too. If you look at the progression slide that we showed from MIT, Stage 1, Stage 2, for established companies, large companies, you can't jump the queue. You can't go from one attribute all the way to the end. You have to work your way through. And that's the basis of, like I said before, the study of a lot of companies in and out of our space. So I think we're in a position that we can jump off and get to that next level.

Joseph L. Hooley

Let me ask one other question. I think the cost efficiency, I think we all get that. And even the speed, I think maybe you accept that but it might shrink [ph] 20% or 50% of the time to get something done. But I think the thing that's a little bit more obscure is how does this great new product do a competitive differentiation. So maybe some examples of how you would envision that happening.

James S. Phalen

Sure. We have a couple of clients now that are pilot clients in products that effectively are taking data from their systems and our systems, bringing them together in a data warehouse effectively where they can provision, okay, capacity from us and effectively be able to process that data within our cloud, okay? That, today, is in process. And so the opportunity to be able to have that data to provide real-time information and analytics, okay, to our customers, okay, is a new powerful capability that -- again, we're early in the phase because you have to do the hard work and get it all the data module right, which is the hard part of the work. It isn't jumping to the analytics. It's getting the data right and getting those data sets right, because we sit on tons of data, obviously, from our clients. Our clients have a big challenge of combining our data off into their data to basically look real-time at various risk asset mix and whatever.

Joseph L. Hooley

One question here?

Unknown Analyst

Can I just ask you to grade how you're thinking about investment spend and the cost saves in the context of the maintenance CapEx versus the CapEx that you're doing really to move the product forward?

Christopher Perretta

Sure. So from a -- so when we put the plan together, we look at all those areas from infrastructure to the labor or what have you. So -- and so we look at our portfolio. We extrapolate what it's going to look like in the future, what it's going to run on and then what's the difference in operating cost from the old technology to the new technology. And then what's our -- so that's on the running what we have model. And then we have the building new stuff model that says, "I can probably" -- "I can. I'm going to build applications x much faster." So we characterize those buckets and then we lay it in based on our -- into the calendar based on our schedule. So for instance, we know that if we move from one technology, say, what we'll call the older risk technology on machines to the new Intel-based processors and run Linux. It's being very technical but those are the benchmarks we've done. We know we'll run that application 30% cheaper than what we did before. And we just do the math and we roll it in, and it goes right through our plan. So the plans are down at that level of detail. And obviously, there's assumptions in there and we continue to validate it as we go along. So there is a very, very complicated intricate financial model that's behind this as we look forward. So it's actually with the portfolio, the technology that runs. It's volatility. How much does it change? And then the operating characteristic of the workforce. So when you say workforce optimization, where will our workforce be that's actually operating that technology? So those are all the factors that go into it, and it goes into the math that goes into an investment evaluation as part of the program governance to validate that the company is getting the returns as it expects for those investments.

Unknown Analyst

Savings, obviously translate into a lower maintenance cost on your forward platform, do you then give the savings back up to Jay? Or do you reinvest in your next plan?

Christopher Perretta

Oh no, we keep them all.

Joseph L. Hooley

Wrong answer.

Christopher Perretta

No, absolutely. So part of those savings goes into the math of the investment. So to move to our applications in the cloud requires investments and then follow-on returns. So that's all built into the sequence of investments.

Joseph L. Hooley

I'm going to ask -- I want to thank Jim and Chris. I'm going to ask Ed to come up and wrap up the program. And we don't have a video to preannounce Ed, but I think you could probably imagine what it might look like if we did.

Edward J. Resch

Thanks, Jay. And I take no offense to having no video. Good afternoon, everybody. This afternoon, I'll update you on some information we provide on the fourth quarter call, review the revenue expense drivers from the fourth quarter to offer you some context for how we're thinking about 2012 and talk about the economic factors, market assumptions that we anticipate for 2012 and their expected impact on our performance. I'll also provide more detail on the management of our investment portfolio, as well as our outlook for capital deployments, including an update on our long-term ROE target.

One of the themes of our fourth quarter call was the impact of derisking that we saw toward the end of 2011. It began in the third quarter and continued to the fourth quarter. And in that, our clients moved assets from international and emerging market funds to lower risk investments, which pressured revenue in both asset servicing and asset management. While overall assets under management and administration did not decline materially, the assets that we continue to hold generated lower fees. In addition, we saw lower volumes in equity trading as the capital markets environment weakened from the third quarter, and that affected our trading services revenue.

We saw an increase in the amount of client deposits left on our balance sheet, as was mentioned earlier. And while those deposits increased net interest revenue, our net interest margin declined due to the lower rates we earned on those excess deposits, which we primarily leave with central banks. Another negative in the quarter was the effect of the stronger dollar, and that produced servicing fee revenue by about $10 million for the quarter. And while we were affected by these factors in the fourth quarter, we benefited from continued new business wins. In the fourth quarter, we won $590 billion in new mandates in investment servicing and $109 billion in gross new assets to be managed by SSgA.

Given the environment in the fourth quarter, we tightly controlled expenses across the company and restricted growth in compensation. We accelerated the implementation of the Business Operations and Information Technology Program. We announced targeted staff reductions to align our workforce with the revenue opportunities we expect to see in 2012. And as I mentioned, reduced incentive compensation across the company. And finally, in the fourth quarter, we announced that we are withdrawing from our fixed income trading initiative. This is one we had invested in for about a little over a year, but it only recently introduced it to a small number of clients. So the impact on revenue on a go-forward basis we expect to be immaterial.

The outlook for the environment is still somewhat clouded in our view. The economists predict the U.S. GDP growth to be about 2% this year. But the consensus seems to be that the GDP in euro -- in the Eurozone is expected to decline about 0.5%. And the lack of growth in Europe, we think, may continue to impact risk taking and may slow client decision-making. In addition, we expect worldwide administered rates to remain on hold through 2012. The Fed had a recent meeting, indicated they expect to keep the Fed funds rate on hold through the end of 2014, as I'm sure we all know. Consumer confidence in the U.S. improved 5 points to 75 in January, which was the fifth consecutive monthly gain, which is a positive. But consumer confidence in the Eurozone is mixed. In Germany, the index rose slightly. But in France and Italy, it moved downward a bit.

Equity markets in January have rebounded from year end. That should support servicing and management fee income, but they continue, in our view, to be fragile and react day-to-day on news from Europe and Asia. For our planning purposes this year, we're assuming that the S&P 500 will increase on average about 5% to 1,328, that compared to 2011. And the MSCI EAFE Index will decline on average about 7% to 1,494. We also expect the dollar to remain strong during the course of the year. Also, we expect regulatory and compliance requirements to continue to evolve. That will increase costs and prolong some level of uncertainty. And in addition, the implementation requirements for Basel III are still not yet final as we know.

Now turning to the State Street's expectations for 2012, given these economic factors and market assumptions. First off, on an overarching basis, we continue to very focused on servicing our clients and closely managing our expenses. As I'm sure you all know, we have a strong record of growing revenue from existing clients. In fact, our record indicates that over the past 10 years, with the exception of 2009, when revenue declined due to the pressures in the financial crisis, between 70% and 80% of our new revenue has come from existing clients. Furthermore, we continue to pursue new business opportunities, especially in faster-growing markets in asset servicing. Such areas as alternative investment servicing and investment manager operations outsourcing are key to us, and in asset management solutions-based strategies that our clients are requesting are also at the top of the list.

Weak capital markets and low interest rates obviously impact the growth in our market-driven revenue. As a result, we're increasing our focus on pricing client contracts to ensure that our fees reflect the current nature of the relationship and services that we provide. If for example, clients stopped participating securities finance activities, we need to figure out how to adjust the price in which we will continue to service their accounts at the level that they expect. These are not easy conversations, as was mentioned earlier. We're making some headway, but it's still early days. And lastly, from a revenue perspective, we believe that our investment portfolio has performed very well over the past several years, and we expect to continue our approach of investing through the cycle, staying within our investment guidelines and not reaching for yield as rates stay low.

On the expense side, as you've heard from Jim and Chris, we performed very well on our view against the targets established for the Business Operations and IT Transformation Program, and we must continue to do that, and we will. Assuming modest revenue growth this year, we intend to reduce the compensation to revenue ratio by about 100 basis points from the average in 2011, which was 40.2%. We expect this ratio, however, to increase in the first quarter, but like last year, to decline over the course of the year. This increase is due to the impact of the required accounting treatment for incentive compensation for retirement-eligible employees, as well as the effect of the associated FICA tax relative to bonus payments.

As I noted on the fourth quarter call, we can expect an increase in expenses of about $30 million from 2011's levels in order to address the risk and compliance costs associated with Basel III, living wills and Dodd-Frank legislation. We typically spend about 20% to 25% of our operating expenses on technology, and that, we believe, is necessary to keep our industry leadership position. But given the headwinds that we expect in 2012, we anticipate our technology expenses to again, as they were last year, be near the lower end of that range. We expect nonrecurring costs from the Business Operations and Information Technology Transformation Program, which we include in operating basic expenses to peak in 2012 and will average about $25 million per quarter. These expenses are the ones that were just shown on the 5-year slide that Jim presented.

Now let's turn to our expectations for securities finance and foreign exchange, 2 market-driven revenue sources that are sensitive to the factors I described earlier. Our outlook for both foreign exchange and securities finance is cautious. First, on securities finance, the demand for lending weakened in the second half of 2011 compared with the first half, and that trend continues into early 2012. Comparing 2011 with 2010, average assets on loan declined 9% or about $35 billion, primarily due to deleveraging, particularly by hedge funds.

In the second half of 2011, compared with the first half, the spread between Fed funds effective in 3-month LIBOR widened by about 25 basis points to about 48 basis points. This improvement helps stabilize our securities finance fee revenue. The spread is slightly lower than that today but is still favorable compared to the first half of 2011. And despite the decline in the size of the overall securities finance market, State Street continues to increase its market share from 21% in the first quarter of 2007 to 28% in the fourth quarter of last year. The outlook for foreign exchange is fairly similar to that for securities finance. Lower volatility -- despite lower volatility, FX revenue increased 14% from 2010 to 2011, given slightly higher volumes in the second and third quarters. Volatility, so far, in the first quarter is also slightly lower than December. Cross-border trading and related demand for currencies remain at about fourth quarter levels, so our outlook right now is somewhat conservative.

We indicated on the fourth quarter call that for the first time, we had seen some of our clients who relied on our indirect model to execute their FX transactions, moving toward other methods of execution through State Street, such as direct FX execution or one of our electronic trading platforms. In 2011, revenue from direct transactions increased about 35% to $352 million from $261 million, while revenue from indirect transactions declined slightly to $331 million from $336 billion (sic)[million]. Most of this differential occurred in second half of 2011 compared with the first half. Revenue from FX trading will via our electronic platforms grew about 18% in 2011 compared to 2010.

Now turning to assumptions regarding our investment portfolio. First, we expect worldwide rates to remain on hold through 2012 and the relevant yield curves to retain their current shape. For example, yesterday the 2-year U.S. Treasury and 2-year bund are about 25 basis points, with a 10-year of each around 200 basis points. The 2-year U.K. gilt is about 41 basis points and the 10-year gilt is about 219. We intend to keep the duration of our investment portfolio to 1.5 years or less, which should keep the balance sheet duration gap between 3 and 6 months, which is our target range. We expect the growth in the investment portfolio to be consistent with the growth of our underlying custody business. We expect about $20 billion in the investment portfolio to mature or pay down in 2012, and we intend to purchase AAA and AA-rated agency mortgage-backed securities and asset-backed securities. We have no direct exposure to sovereign debt in the peripheral countries of Portugal, Ireland, Italy, Greece or Spain. We do hold $1.2 billion in securities issued in those countries, primarily RMBS, and all those securities are performing within our expectations and are current as the principal in interest.

With these assumptions in mind, we expect our 2012 net interest margin to be 145 and 155 basis points. As we pointed out in the fourth quarter call, if excess deposits stay at the elevated level of the fourth quarter of last year, we'd expect net interest margins to be at the lower end of the range for this year. Our excess deposits increased an average for about $15 billion in the third quarter of last year to $23 billion in the fourth quarter, and we have seen a modest reduction in those deposits in January so far this year.

Regarding our expectations on capital deployment in 2012, we submitted our CCAR stress test results and capital plan to the Federal Reserve in January as was required, and we expect to receive their response by mid-March. We targeted dividend payout ratio between 20% and 25%, and we expect to return as much capital to shareholders as we are allowed. Regarding acquisitions, we continue to be opportunistic and disciplined in reviewing strategic fit and pricing. We're interested in asset servicing opportunities and we'll also look at potential acquisitions and asset management if the economics are attractive and it helps to further our strategic objectives. We intend to be very careful in deploying capital for acquisitions with the following objectives: we'll only consider acquisitions that fit our strategy; we target a 90% or more revenue retention; we want the acquisition to be accretive in the first full year after closing, excluding the restructuring costs; and finally, we want the projected return to be higher than our weighted average cost of capital.

As we begin 2012 and approach 2013, the year in which we start to migrate to implementation of the fully phased in Basel III capital rules, we believe an update on our long-term operating basis ROE target is in order. Prior to the financial crisis, our target range for operating basis ROE was 14% to 17%. The global business environment has changed, and our target range needs to reflect the impact of that environment on us. Since it is still early and the rules are not yet final, our long-term operating basis ROE range is predicated on several significant assumptions. First, we've outlined the expected impact of our Business Operations and Information Technology Transformation Program on our results compared to 2010, all else equal. Our 400 basis point improvement in pretax operating margin by 2015 is very important in the determination of our expected long-term ROE target.

Secondly, the full value of our client deposits won't be realized until interest rates return to more normal levels. You may recall that at our 2010 Investor Day, we outlined certain broad assumptions that, if realized, could generate a net interest margin of between 175 and 185 basis points. We believe this is still valid based on our year-end 2011 balance sheet. Two of the key assumptions outlined then, which we believe represent a return to a more normalized interest rate environment, were an overnight Fed funds rate of around 3% and a 10-year U.S. Treasury of around 5%. Our third assumption is based on our ability to manage capital to a set of capital ratios rather than as a function or percentage of earnings. At some point, we believe the regulators will loosen the restrictions on returning capital to shareholders. In migrating to ratio-based capital distribution framework, a key assumption is the level of capital that we will target. Given everything we know today in a normalized environment, we think a Basel III Tier 1 common ratio, somewhere around 10% on a fully phased-in basis is appropriate. We believe that over the long-term, the realization of these assumptions should enable us to generate a long-term operating basis ROE in the 12% to 15% range, but we do think it will some time to get there.

That includes my remarks. Thank you all very much. I'll turn it back to Jay.

Joseph L. Hooley

Thanks, Ed. Let me quickly summarize, and then get -- we'll go to a broad Q&A session. My summary would begin with, we think this business has been pretty resilient. When you look at 2011 against the backdrop of difficult markets, 9% revenue growth, 10% EPS growth. I think we're working both sides of the income statement very effectively. I believe our focused strategy, fueled by the trends that I spoke about, globalization, retirement, complexity, suggests good long-term strength in this business. Hopefully, through the panel discussion, you came to realize that we do have a market-leading global footprint, and markets outside the U.S. will continue to deliver outsized growth opportunities. And we're positioned to capture those growth opportunities.

The rigorous expense in balance sheet management. First, on the expense side, I hope you picked up from the conversation, it is about expense. But it really is about transforming this operating environment, which I think will put a fair distance between us and our nearing competitors. And then strong capital, strong capital that not only gives our customers the assurance of the depth and strength of the organization, but also gives us some flexibility with regard to returning capital to shareholders and acting on acquisitions, should they be attractive and become available. And I think all those things together to me suggests that we will continue to drive long-term shareholder value while we work through this short-term trough.

So let me pause and open the floor to your questions. Yes, go ahead, Jeff.

J. Jeffrey Hopson - Stifel, Nicolaus & Co., Inc., Research Division

So I guess, for Ed, the comp ratio that you talked about. If revenues actually grew at a higher rate, what would that do to that number? And then on the capital levels of 10%, any thought of when you would be targeting that number versus your current number?

Edward J. Resch

Yes, in terms of revenue, obviously, if revenue is stronger rather than weaker, the comp ratio will, as I'll say, go in the right direction. But I think the converse is also true that we said we think we can bring it down 100 basis points to around 39%, 39.2% range. If revenue were to somehow be softer than what we think, it may be -- the ratio may be a little bit higher than that. So it is highly revenue-dependent, especially so in an area where in a year where maybe revenue will not be as strong as some of the years, okay? So I can't give you an exact number that if everything was x, then the ratio's going to be y. But we're trying to set a directional guidepost for you to say that we're going to bring compound, the ratio down by about 100 basis point, assuming revenue grows modestly. In terms of 10%, obviously, the Basel III rules have a pretty long glide path. They start in 2013, and the assumption for simplicity in our model is to have a 2019 target out there. The Basel III Tier 1 common goes before buffer, 3.5% up to 7% over that timeframe. We're just saying that at 2019, we're assuming 7% is the bogey. We're assuming that our G-SIFI buffer will be 1%. And we don't know that, we're just assuming that, so we're 8%. We're putting a 2% cushion on top to get to the 10%. As we -- if you want to backup from that and look at what will the actual Basel III Tier 1 common ratio will be in 2014 and 2015, it will have to be up. It can be less than what's going to be required in 2019. We are at 12-plus percent today. So there's room to move there. But for the model, I just wanted to put the outer boundary out there, 2019, and give you our thinking on ROE with those assumptions.

Joseph L. Hooley

Catherine [ph]. And then we'll go over here.

Unknown Analyst

Ed, what needs to happen for the regulators to allow State Street to return excess capital to shareholders if you chose to do that?

Edward J. Resch

Well, I'll comment. And then Jay said some other discussions that I've been not party to, but he can shed some light on this, too. I think that fundamentally, the regulators need to feel that the economy is on solid ground, it can be sustained. 2% GDP growth is kind of bumping along, I think. I think they want to get some confidence that it can be at a higher level on a more sustained basis. Obviously, unemployment has to be part of that equation, housing needs to be a part of that equation. I think, though, that when you put Europe on top of that, if you will, that, that just adds to the concern that maybe things haven't stabilized, the corner has not been turned. I think once that, that is believed by the regulators, there's a higher likelihood that they'll give banks more flexibility to return capital to shareholders. But I think we're a ways away from that. We're in the CCAR stress test regime now. This is the second time through for us. We had to make a request as I noted. We made a request that we think is a prudent request for capital distribution. And we'll see what the Fed says about our request in another month or so. But I think there's a ways to go before they give managements more flexibility to distribute capital than currently exists today.

Joseph L. Hooley

Yes, I agree with that. I particularly agree. If you think about when the stress test were first -- were for the recent cycle were convened, Europe was still -- felt like a pretty disruptive factor. But if I go back to the last stress test and compare it to this stress test, it feels as though a year ago, there was very prescriptive guidance given out to the Fed with regard to the banks, I don't feel that as much this year. I think this year, you're going to see a cycle where there will be more differentiation. And I also think you'll see, the thing that isn't spoken about frequently but is a pretty big factor here, is the disclosure. I think the Fed's view is the disclosure is going to be more disclosive than last time. And I think as the world -- as the Fed starts to differentiate among banks and make that commonly known, I think that will be a step towards providing more flexibility for stronger banks with higher capital to have more flexibility. But I think it's a sequential pacing deal. Alex, go ahead. I'm sorry. Yes, we got you there.

Alexander Blostein - Goldman Sachs Group Inc., Research Division

Listen, during this presentation, you talked about growth coming from geographic expansion, product expansion and even your technology expense initiative. So if we are coming back and reconvene next year, other than the dollars of expense savings, what are the benchmarks that we should look for to gauge and monitor progress against some of those growth dynamics that you talked about? And then secondly, given your technology investments, are there new products or geographies or types of businesses that you think differently about today than you might have at this point in time last year?

Joseph L. Hooley

Yes, I mean, I would say on the first question is a little tricky one to answer. I can answer it, but it's a little tricky to accurately benchmark because there's so much going on in the environment, with the market levels, risk-taking of investors and other environmental factors. But I would say the things that we measure internally would be new business flows, share of market, share of wallet, cross-sell, are all top line things that we look at. We also look at the number of new products that we brought to market, the revenues derived from them, fee increases that we might get. And on the expense side, I think we probably touched most of that through the IP and ops transformation. If you were to ask me as you did what might be different in my outlook regarding top line growth today versus a year ago, I would say you'd hit the right dimensions, geography is a key growth theme, product is a key growth theme and client is a big growth theme. But the thing that probably has the most upside potential over the mid- to long-term in my view is this whole data analytics, middle office, being able to capture it in a way that's not just on extension of our core servicing platform, but is a real value-added differentiator to the customers. We'll go to Gerard, and then bounce around. We'll go back to you, Alex.

Gerard S. Cassidy - RBC Capital Markets, LLC, Research Division

Could you share with us on your installed base what percentage of your business are you going to be able to go to, to get better revenue enhancements from this installed base? And then once you define what that group of customers are, how far along are you in going to them? Are you halfway through the process? Or is this going to last for a while? And then how can we as outsiders see tangible evidence that you're having success in actually producing better revenues from this installed base? And then for Ed, could you just share with us the CCAR this year? Last year, it was more of a binary process, if I recall, where you got a thumbs up or thumbs down. This year, is it more dynamic, where they're actually talking to you about, “Well, we're not so certain that the buyback is the right amount"? Or is it the same binary process?

Joseph L. Hooley

Yes, on the first part, Gerard, I would say it's product penetration and cross-sell. So if you were to put our customer base in a tiered hierarchy, for the middle to low end customers, pretty simple solutions. There's 2 points I pick up from your question. One is the pricing point and the other is the cross-sell or the broader extension of customer wallet point. And I would say in the lower-end customer segment, it's more of a repricing appropriately for the products that we're providing because as a class of customers, generally speaking, the breadth of things that we can do for them is more limited. As you get into the middle- and upper-end customer segment, there are an enormous number of things we can do for them. We define close to 30 different products across 30 different locations. So you get into large, sophisticated investment managers. There's any number of things we can do to further penetrate that customer through cross-sell, bring them to a different geography, consolidate a position, all the while, we're also continuing to -- and I think this is an important point through this cycle, bring out new product. So what we've done, we're in the process of introducing to the market a derivatives-clearing service as a result of the CFTC new regulations. Collateral management is a big product enhancement for us. What we're doing with information and analytics is a big product enhancement. So I would say to the upper 2/3 of our customer base, it's almost boundless with regard to how much further we can penetrate the customer base if we continue to introduce new product and if we take advantage of geographical diversification and product extension. Is that responsive to your question? Ed, go ahead.

Edward J. Resch

Sure. And on the CCAR, you're right. Last year, we were told it was an up-or-down type of a process. We've not been told that this year. But there has not been a lot of dialogue after we submitted our request, other than to follow up on some pretty mundane types of questions. So that's where it is. It's too early to say. But the fact going in, that it's not up or down, I'd say, was encouraging.

Joseph L. Hooley

Alex, and then we'll go to Jason.

Alexander Blostein - Goldman Sachs Group Inc., Research Division

I just want to follow up on your comments about the 10% target ratio and, I guess, the 200 basis points buffer that you guys think you will run with. I guess, number one, what happens if the G-SIFI buffer is over 100 basis points for you? Does the 200 basis points sit or stay in stone? And then broadly, why do you feel like you need to have another 200 basis points, i.e. are there other capital ratios we need to think about that might be a little bit more constraining? And then do you mind sharing your views of where you want to be on those ratings as well?

Edward J. Resch

Yes, I would say, again, as we sit here today, with things being not totally pinned down from the standpoint of what the rules are, that if, for some reason, our G-SIFI buffer was above 100 basis points, we just ratchet up 10% by that increment, okay? We picked a 2% buffer on top of 8% just to be conservative and just due to the uncertainty surrounding the current state of play with the rules. There is an open question as to the effect of the mark-to-market on our investment portfolio on equity under Basel III. So we want to make sure we're conservative on our thinking about how that could possibly affect the ratio at this point, Alex.

Joseph L. Hooley

I think the other thing that plays in there is I don't think, Ed, that the regulators have been clear about how we should look at that buffer. Is that an inviolate buffer where we can't dip into it? Or is there some room on the underside of that, that would also...

Edward J. Resch

The 1% that we...

Joseph L. Hooley

Andrew and then Jason here.

Andrew Marquardt - Evercore Partners Inc., Research Division

Can you talk about the near-term revenue expectations? I think you said modest. What does that really mean in this environment? And can you do better than that if this environment stays as it is, the derisking, the lower-for-longer [ph]? And is that enough to actually get positive operating leverage with the IT cloud initiative that you're doing?

Joseph L. Hooley

So I think the question is pointed at the derisking, re-risking. Let me just try to dimension that a little bit for you. The second half of 2011, markets were largely down, U.S., Europe. And it really had a profound effect on investors' confidence. And I think that gets lost a little bit. But we see the world almost from the inside out, and it was pretty profound. So as we get into the December period, U.S. markets started to recover, that rally has continued, it spread to Europe a bit. I would say the confidence or re-risking, you can use those terms synonymously, started pretty narrowly. We started to see it show up in some of the hedge and alternative asset classes. I think more recently, you can look to things like U.S. mutual fund flows, which have turned positive, and the long-term funds flow. So I think that the recent market activity has obviously been positive, but I think you're starting to see some -- what was a narrow re-risking starting to broaden out a little bit. So if going forward, if Europe stays contained, if the U.S. continues to grow a little bit better than people thought, if the equity markets continue to head in the right direction and there are no shocks to the system, my guess is that you'll see that re-risking continue in a positive direction. Now I would also remind you that Europe feels different than the U.S. I think the U.S. feels like it's a little bit ahead. If you talk to folks in Europe, I think the markets have only recently started to turn positive. I think there's still a huge concern about Europe if you're in Europe. And I also would remind you that institutions and retail have different lag effects with regard to whether they're in front of. That's why I pointed out the alternatives. Hedge seemed to early on to get on the re-risking, and as it broadens out, institutions then retail. So if the recent market activity that we've seen sustains itself, I would expect that re-risking would continue to occur, and that would be a very positive thing for our business. Hard for me, Andrew, dimension that against revenue targets. We're still cautious. I'm not convinced that we're not going to see shocks to the system throughout 2012 and that we're not going to see a straight line of confidence in re-risk return.

Andrew Marquardt - Evercore Partners Inc., Research Division

So is it fair to assume that, that will have negative operating leverage this year and next year, there's a greater probability of getting positive, just because you're going to get a bigger lift really from your IT expense initiative. Is that fair?

Joseph L. Hooley

I think that positive operating leverage -- let's continue the conversation of re-risking. Let's assume that 2012 is a decent year. Europe stays intact. We continue to rebuild confidence from the economy, the risk-taking takes place, and then we get into 2013 and that continues. That will bring with it a lot of positive things, market-based revenues as cross-border investing increases, foreign exchange will get better, maybe more leverage in the system helping securities lending. So if that trend were to continue, then you start to bring in the market-based revenues which really gives your operating leverage a nudge to the upside. I would say on the -- so that's less certain, less predictable on the IT and ops transformation. You rightly point out that we accelerate into 2013. So we've got another $100 million in '12 and then we tip up in 2013. So I would say if the market trends continue, no shocks to the system, which I think is -- I'm not sure how likely that is. We would expect to see operating leverage and higher growth rates as we get into '13. Jason?

Jason M. Goldberg - Barclays Capital, Research Division

You've [indiscernible] talked about long-term ROE targets. In addition to that, you also talked about, I guess, revenue growth in the 8% to 12% area and EPS growth in the 10% to 15% range. I know some of your peers have kind of stopped talking to kind of long-term assumptions on those 2 line items. I guess, just your thoughts over the long-term revenue and EPS trends.

Joseph L. Hooley

Yes, it ties into that prior discussion, which is if I take myself out of this current trough that we're in from a standpoint of market growth, risk-taking, cross-border asset flows, interest rates, I don't have a hard time getting to the 8% to 12% revenue growth rates. And what lies behind that is good organic growth. You've seen that throughout the course of this cycle. Good upside in non-U.S. markets, good ability to cross-sell. So I think it's really a factor of staying the course on the core business, continuing to generate new customers, cross-sell, asset servicing, asset management. And as the economy heals and recovers, there will be upside which will come on with it. Yes, Brian? And then we'll move over here.

Brian Bedell - ISI Group Inc., Research Division

A multipart question here. Can you just talk a little bit about the long-term operating cost structure after the IT transformation program is fully baked in 2015, in terms of where you would expect comp to revenue ratio to be roughly assuming once you had an 8% annual growth rate in revenue every year? And if you can talk about the proportion of expenses that you would think would be variable on a fully phased-in expense structure in, say, 2015 versus 3 years ago or versus now, let's say. And on that program as well, can we potentially see a revenue component of that? You mentioned a lot of new product development. Maybe it's too early to size that. Maybe next year or the next 2 years, is it possible we could see a revenue line on that?

Edward J. Resch

I think that the comp to revenue ratio should come down over time, Brian. We haven't put out a target out there. But as we move a large amount of money out of the salary and benefits line, remember we said we were going to save $600 million over the life of this program. We're actually planning on getting $700 million out of the comp and benefits line, with an uptick of about $100 million in the info systems line for the Wipro and IBM contract. So as this program gets implemented, again, assuming what you said in your question, decent revenue performance, we would expect that comp to revenue ratio to move down through time. We haven't put a target out there in length specifically, the 400 basis points of positive operating leverage this thing generates with a comp ratio, but it should come down through time as we implement the program. I think in terms of the fixed versus variable nature of our cost base, it obviously moves it more toward having a higher variable component for the reasons that Chris and Jim talked about relative to IT. But I think that has to be viewed within the context of the cost base of the company is generally more skewed to a fixed cost base, which is why we have the leverage that we have in a better revenue environment, as I'm sure you know. So move it along to make it more variable, but it's not going to transform the cost base of the company from a high fixed cost base to a totally variable cost base.

Joseph L. Hooley

On the revenue side, it's too early to dimension revenues from a product standpoint. But I would say our expectation that we'll be able to introduce more new products at a lower cost. So for that, that should translate into speed, more product and lower cost. And the other thing which is a little bit indirectly related is that we're striving to be the lowest cost producer in this trust and custody business, that doesn't mean low quality, that means the lowest-cost producer. If you believe my thesis that the industry will consolidate, then we're going to be the best buyer of consolidated assets because we have a single platform and we're the lowest-cost producers. So that's another way that translates into top line. Let me go over here.

Unknown Analyst

Jay, I'm sure you don't think and I don't think that the money market fund proposal of the SEC is going to go through. If, for the moment, can you speculate? If it did, what would happen to the structure of the under 100-day paper? And what does this do on a relative basis to State Street compared to [indiscernible] organization compared to its competitors?

Joseph L. Hooley

Good question, Michael. I'm not convinced that there isn't going to be some change here. I think that there's enormous pressure in the regulatory environment to do something different with money funds. And part of that is back in the financial crisis where money funds operated pretty well, they did so with a lot of Fed support. And under Dodd-Frank, that Fed support is no longer allowed. So I think there's a real sense of urgency within the regulatory environment to do something different. And we've probably all seen the broad proposals of floating the NAV or requiring for them to put capital against money funds or more recently, have an extended redemption period, which would allow for the fund to deal with redemptions and not create a run. My view is that something's going to happen along 1 of those 3 veins. How that translates from an industry standpoint would depend a lot on which path they choose or if they choose multiple paths. With the one that -- probably most complex to figure out is the capital one. If they were to require firms to hold capital within a structure or against funds, there are some firms that have money funds that are capital-light. So how would they generate enough capital, what kind of lead time will they have to implement, something like that. From a more individual State Street standpoint, we see that in 2 different directions. So of our short-term funds, there's about $60 billion that would broadly be in that registered money fund category. So as the industry went, we would have to deal with those any additional regulatory changes. And we also -- on the servicing side, we service a lot of money funds. Now I think one of the reasons that this issue has been protracted from a regulatory standpoint is this $2.6 trillion, which are critical to liquidity in the funding markets and also are critical from a standpoint of institutional and retail investors. So I think that's caused the regulators to really think hard about what changes they can put in place to give them a better sense of safety and soundness, but not to send $2.6 trillion into bank deposits or in other directions. So I don't know. I think but my instinct is that we're going to see something different in the first half of the year with regard to money funds. I think for us it's -- as I say, we have -- of our $0.5 trillion in short-term funds, $60 billion is in that category. We'll deal with whatever changes come about. But I think it's a big question out there.

Unknown Analyst

Because you are a bank, you're better-positioned than a number of money market fund shops. And whatever happens here is likely to have some impact on short-term or, if you will, money market funds overseas. So the implications can be much larger.

Joseph L. Hooley

Yes. No, and I take the point of if capital is one of the remedies, then a bank's in a better position. I have 2 comments. Yes, on one hand. On the other hand, given the way money funds are yielding, if you have to put capital against the return of that capital is not necessarily attractive so that you want to go out and take over the money fund business. So I think it has that complication, too. Ed, yes, I'm sorry. And then we'll go, Mike, back to you.

Unknown Analyst

If this period of derisking continues for a long time, what additional products or services do you think you could sell to kind of keep the fee per custody asset from declining too much?

Joseph L. Hooley

Well, I think, unfortunately, if derisking continued, that would be a consequence of lack of confidence in markets, probably more shocks, more -- naturally, in an environment like that, we're going to get more outsourcing work. I think the investment management industry broadly would probably take on a different shape over time, maybe through a consolidation. We tend to play in the upper end of that. I think that would be positive for us. So I think, I'd also say on our asset management franchise, if you look at -- when markets derisk, they tend to go to safer assets both in our data business and in our ETF business. So I think we've seen positive flows there. We continue to develop products in the asset management side that contemplate a more risk-averse market. Scott mentioned solutions, the ability to provide a combination of asset management services to produce predictable returns, I think that business gets more attractive. Mike, and then I'll go to Steve, sorry.

Unknown Analyst

What percent of your revenues are from your top 100 clients and from your top 1,000 clients?

Edward J. Resch

2/3, top 100.

Joseph L. Hooley

2/3, top 100.

Unknown Analyst

Top 1,000?

Edward J. Resch

90%.

Unknown Analyst

Okay. But my question relates to client profitability, it kind of sets up there. So I'm just reading back statements you told us today. You said this demand is really good. Complexity, regulation, globality, retirement services, okay. And then you said that you priced dynamic pricing model, you stepped back in Europe, you're not selling a commodity product, you're increasing the rigor on pricing. You're dynamic with your pricing, you had big growth and 2/3 of your revenues are with clients with 20-year relationships. That's incredible, right? So you have all that, but then I compare that to your servicing fees, which I think are at an all-time low. If not at an all-time low, they're pretty close to it. So that's an enormous disconnect, same question I have 2 years ago. And the whole industry fights with this. So should we just get rid of the trust banks generally and go buy MasterCard? I was emailing -- their margins are double what yours are. So are just giving out all the benefits to the efficiency a couple of decades ago and giving all the pricing to your customers and not leaving it for your shareholders.

Joseph L. Hooley

No, I don't think we're doing that, Mike. But I do think it's been -- if you go back over 4 years of this financial crisis, I'd say the prevailing view in the first couple of years was this is a short cycle. We're going to gut it out, we're going to tighten our belt, we're going to trim around the edges and get through it. In the last year or 2, the outlook has changed, right? I mean, this trough could be an extended trough, and therefore, I would say on the customer profitability management, that's been a fairly recent phenomenon in the last year or 2, working at making sure that we've got appropriate returns for customers. So that would be my response. I think all the long-term things that you heard about, I think, are driving the core business growth. But we're still working against headwinds of NIR, foreign exchange, securities lending. But we're working it.

Unknown Analyst

So just to finish, I mean, maybe 20 years is too long for the average length of your big customers. Maybe if it went down to 17 years and you got a better return, that might be a better direction to go. Any thoughts on that?

Joseph L. Hooley

No, I continue to believe that we're well-served by taking care of our customers and growing with them and working through profitability issues over time. I'd rather have a customer than not have a customer, particularly those -- when we talk about our sweet spot, and this is a comparative point, our sweet spot is in the global investment managers who have the best upside. They're the ones that are growing globally. They're the ones that are introducing new products. They are the ones when the market re-risks, they're going to get the flows. They're the ones that are introducing new services. Steve -- I lost track of who -- and then I'm going to go to Ken.

Unknown Analyst

Following up on Alex's question, I don't fully understand why I feel you need 200 basis points above your G-SIFI target. And was this based on some rigorous analysis of the mark-to-market losses in '08 in the Street portfolio and the cushion that you need in sort of a similar kind of Armageddon environment? Or was it something else? And then secondly, on the 10% Basel III Tier 1 common, what would that equate to on like a Tier 1 leverage ratio? And I think that used to be the constraining metric, but it doesn't sound like it is anymore.

Edward J. Resch

Well, total capital is under Basel III. Total capital.

Unknown Analyst

But you seem to be targeting or telling us to really focus on Tier 1 common.

Edward J. Resch

Yes, I mean, it just seems like that's the Basel ratio that the market has gravitated toward. There was a level of analysis there. I mean, the world has changed a lot since we did the portfolio repositioning back at the end of 2010, Steve, right? But yes, I mean, we are sensitive to the potential marked volatility and that factored into our thinking to say, right now, we think a 200 basis point cushion on top of the 8% is a prudent way to think about it.

Joseph L. Hooley

Ken. And then Brad, we'll go to you.

Kenneth M. Usdin - Jefferies & Company, Inc., Research Division

Ed, 2 questions. First of all, just regarding again your 2012 in terms of modest revenue growth. What are the areas of the business that you do actually expect to grow if we're seeing a little bit maybe of a hard start for FX and sec lending? Is it servicing fees and management fees there leading the way? Could you just help kind of understand what actually grows?

Edward J. Resch

Yes, I mean, I think given what I said about our caution relative to the market-driven revenues, kind of across-the-board, yes, you'd have to say that the servicing fee and management fee lines are the areas where we were more optimistic relative to growth, right? We think rates are going to be low. We've said that the margin will decline over time, similar to what it did last year, same type of trajectory. And we could be surprised on the upside if volatility and cross-border investing kicks up on FX. But we're not willing to say that as a planning assumption. And we've talked a lot about securities finance and volumes are off a bit. We have a little bit of a tailwind recently with the spread being in our favor. But I'd say that the 2 core servicing and asset management fee lines are the ones where we expect to see some improvement.

Kenneth M. Usdin - Jefferies & Company, Inc., Research Division

Okay. My second question is related to you mentioned that the last year's core margin was like 160. This year, the range is 145, 155. Presuming that rates don't go up next year and that the curve doesn't change much, what do you expect for the margin to do in the out year? I know the balances part is a tricky thing to gain. But just what happens with core margin compression or opportunities, challenges as you go forward?

Edward J. Resch

For 2013?

Kenneth M. Usdin - Jefferies & Company, Inc., Research Division

Yes, or past that, yes.

Edward J. Resch

Yes, I mean, given that assumption, we would expect 2013 to exhibit the same pattern that we're projecting for 2012, which is the same as what we saw for 2011. So the relatively slow degradation in the margin, let's say, is around 8 to 10 basis points, which was 8 basis points of what it was last year. We're projecting at the middle, 8 basis points or so this year. That would happen again next year, we think, given the composition of the portfolio and protracted low administered rates worldwide.

Joseph L. Hooley

Brad?

Brad Hintz - Sanford C. Bernstein & Co., LLC., Research Division

This is for Ed. Ed, just a simple question. You're bringing your comp ratio down 100 basis points, and very pleased about that. Are you changing the amount of compensation that's being deferred, extending divesting period or changing full service retirement assumptions?

Edward J. Resch

We're not changing full service retirement assumptions. That's 55 and 5 for us under our plans. We are not changing vesting for the stock awards that we grant. They have a 4-year vesting period on them. And what was the first part of your question, Brad?

Brad Hintz - Sanford C. Bernstein & Co., LLC., Research Division

Are you increasing the amount of deferred compensation?

Edward J. Resch

No, we have a relatively high percentage of compensation that is deferred, basically in the form of equity, broadly. That's been the case for a couple of years. We're not increasing that. Actually, our objective over time is to bring that more back towards a 50-50 type of balance. We're above that right now with equity being the greater component.

Joseph L. Hooley

One over here.

Unknown Analyst

Yes, maybe 2 questions on the capital side, maybe try the 10% limit one more time. Is there an expectation that you're building some cushion for acquisitions with that 2% in that? Or is that a hard line, that even with an acquisition, you don't want to go below? Is there some flexibility there built in there to keep some powder dry for acquisitions? I guess, first question. And then, Jay, you commented earlier that you think the regulators are going to be more discerning, allowing the stronger banks to potentially differentiate themselves on the capital returns. Is the implication that you think stronger banks will be able to do more than the 60% that we saw last year? And if so, how much?

Joseph L. Hooley

Let me take the second part. You can take the first part. On the second part, yes, I do think there will be more flexibility, and I do expect there will be payouts in excess of 60%. But I don't know what they will be.

Edward J. Resch

And we are not signaling anything relative to acquisitions by putting a 200% -- a 2 percentage point buffer in there. It is a -- to kind of put a stake in the ground, to give you some insight as to how we're thinking about the ROE target over the longer term.

Joseph L. Hooley

We've got one more.

Unknown Analyst

I just want to follow up in terms of the ROE. What's the key ratio associated with the Tier 1 target? And then also, in terms of the ROE, what the -- if you sort of have a range of margin that's associated with that? And then finally, any updates with any FX lawsuit?

Joseph L. Hooley

Let me take the FX lawsuit, while Ed's doing -- no real update. I mean, we have 2 situations, California and Arkansas, I believe, and just running through their process. No new lawsuits, a lot of inquiries. But no, nothing really to report there.

Edward J. Resch

About 6.5%.

Unknown Analyst

And so that implies a -- so like a 65%, you're saying risk weighted asset to -- tangible assets to risk weighted assets then? It seems a little high. I guess, the low investment-grade securities. Do you still have some low investment-grade securities...

Edward J. Resch

Yes, about $2 billion, that drives about $20 billion in risk weighted assets that's rolling off. They're not all going to be gone by -- in the short term, but that will roll off over time.

Unknown Analyst

So over time, though, I would think that would get you down to like a 50% type of ratio. So you could almost get to like maybe 5%, 5.5% TCE ratio.

Edward J. Resch

Well, I mean, the way it's modeled with the assumptions I laid out, it's about 6.5%.

Unknown Analyst

Okay. And then the margin?

Edward J. Resch

The margin, we're assuming we get the ops and IT improvements, so it's 32%.

Unknown Analyst

Okay. And anything above in terms of with the interest rates normalizing, that getting you another, say, 30 bps in NIM?

Edward J. Resch

We're assuming that interest rates normalize and we achieve, for the purpose of the model, 180 basis point NIM in this model, underpinning the 10 -- the 12% to 15% ROE.

Joseph L. Hooley

Great. Well, I thank you for your time and attention. A little bit longer program than normal. We're going to send out a brief survey. Feel free, please do provide some feedback on venue and any other ideas you have for subsequent investor and analyst presentations. But thanks for your time this afternoon.

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